You want to earn a return of 11% on each of two stocks, A and B. Stock A is expected to pay a dividend of $3 in the upcoming year, while stock B is expected to pay a dividend of $2 in the upcoming year. The expected growth rate of dividends for both stocks is 4%. Using the constant-growth DDM, the intrinsic value of stock A ________.

Question

Quizplus · Accepted Answer

Using the constant-growth DDM, we can calculate the intrinsic value of each stock as follows:

For stock A: 
Intrinsic value = D1 / (r - g) 
= $3 x (1 + 0.04) / (0.11 - 0.04) 
= $34.29

For stock B: 
Intrinsic value = D1 / (r - g) 
= $2 x (1 + 0.04) / (0.11 - 0.04) 
= $22.86

Therefore, the intrinsic value of stock A is higher than the intrinsic value of stock B, meaning that stock A is the better choice if you want to earn a return of 11%.

You Want to Earn a Return of 11% on Each