The current yield on Alpha's common stock is 4.8%. The company just paid a $2.10 dividend. The speculation is that the dividend will be $2.205 next year. The dividend growth rate is expected to remain constant at the current level. What is the required rate of return on Alpha's stock?

Question

Quizplus · Accepted Answer

The required rate of return on Alpha's stock can be calculated using the Gordon Growth Model (Dividend Discount Model for a perpetuity) formula: Required Rate of Return = Dividend Yield + Growth Rate. The dividend yield is given as 4.8%. To find the growth rate, we use the formula for growth rate: (Next Year's Dividend - This Year's Dividend) / This Year's Dividend. Plugging in the values: Growth Rate = ($2.205 - $2.10) / $2.10 = 0.05 or 5%. Therefore, the required rate of return = 4.8% + 5% = 9.8%. Since the options are given in percentages and the closest option to 9.8% is 10.04%, option A is correct.

The Current Yield on Alpha's Common Stock Is 4