You are considering the purchase of a certain stock. You expect to own the stock for the next four years. The current market price of the stock is $24.50 and you expect to sell it for $55 in four years. You also expect the stock to pay an annual dividend of $1.25 at the end of year 1,$1.35 at the end of year 2,$1.45 at the end of year 3 and $1.55 at the end of year 4. What is your expected return from this investment?
A)21.78 percent
B)18.36 percent
C)26.68 percent
D)32.85 percent
E)None of these choices are correct.

Question

Quizplus · Accepted Answer

First, we need to calculate the future value (FV) of the stock after four years, based on the expected selling price and the dividends:

FV = $55 + $1.25/(1+r) + $1.35/(1+r)^2 + $1.45/(1+r)^3 + $1.55/(1+r)^4

where r is the expected rate of return.

Next, we can use the current market price to calculate the required rate of return (or discount rate) that we need to achieve our expected return:

$24.50 = ($1.25 + $1.35/(1+r) + $1.45/(1+r)^2 + $1.55/(1+r)^3) / (1+r) + FV/(1+r)^4

Simplifying this equation, we get:

r = 0.2668 or 26.68%

Therefore, our expected return from this investment is 26.68%. Choice C is the correct answer.

You Are Considering the Purchase of a Certain Stock