Asked by Michael Ariestan on Jul 26, 2024
Verified
Fred Flintlock wants to earn a total of 10% on his investments. He recently purchased shares of ABC stock at a price of $20 a share. The stock pays a $1 a year dividend. The price of ABC stock needs to _____ if Fred is to achieve his 10% rate of return.
A) remain constant
B) decrease by 5%
C) increase by 5%
D) increase by 10%
E) increase by 15%
Rate of Return
Increment or decrement in the financial worth of an investment across a chosen timeframe, calculated as a percentage of the investment's initial cost.
Dividend
A dividend is a portion of a company's earnings distributed to its shareholders, reflecting a share of the corporation's profitability decided by the board of directors and paid on a regular basis.
- Acquire knowledge of the core concepts and numerical analyses used in the dividend growth model for evaluating stocks.
- Recognize the implications of dividend policies and growth rates on stock valuation.
Verified Answer
ZK
Zybrea KnightAug 02, 2024
Final Answer :
C
Explanation :
To calculate the rate of return, we need to consider the dividend and the change in the stock price. Let's assume that Fred purchased 100 shares of ABC stock for $20, which gave him a total investment of $2000. The annual dividend per share is $1, so the total dividend received by Fred is $100 (100 shares x $1 per share).
To achieve a 10% rate of return, Fred needs to earn an additional $100 in capital gains. This means that the value of his investment needs to increase by $100. Since Fred purchased the stock at $20 per share, the total value of his investment is also $2000 (100 shares x $20 per share).
To increase the investment value by $100, we need to calculate the percentage change in the stock price. Let's denote the new stock price as x. We can set up the following equation:
$2000 + $100 = $2000(x)
Solving for x, we obtain:
x = $2100/$2000
x = 1.05
This means that the stock price needs to increase by 5% in order for Fred to achieve his desired rate of return. Therefore, the correct answer is C) increase by 5%.
To achieve a 10% rate of return, Fred needs to earn an additional $100 in capital gains. This means that the value of his investment needs to increase by $100. Since Fred purchased the stock at $20 per share, the total value of his investment is also $2000 (100 shares x $20 per share).
To increase the investment value by $100, we need to calculate the percentage change in the stock price. Let's denote the new stock price as x. We can set up the following equation:
$2000 + $100 = $2000(x)
Solving for x, we obtain:
x = $2100/$2000
x = 1.05
This means that the stock price needs to increase by 5% in order for Fred to achieve his desired rate of return. Therefore, the correct answer is C) increase by 5%.
Learning Objectives
- Acquire knowledge of the core concepts and numerical analyses used in the dividend growth model for evaluating stocks.
- Recognize the implications of dividend policies and growth rates on stock valuation.
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