1. Woidtke Manufacturing's stock currently sells for $20 a share. The stock just paid a dividend of $1.00 a share (i.e., D0 = $1.00), and the dividend is expected to grow forever at a constant rate of 10% a year. What stock price is expected 1 year from now? What is the required rate of return on Woidtke's stock?
2. Nick's Enchiladas Incorporated has preferred stock outstanding that pays a dividend of $5 at the end of each year. The preferred sells for $50 a share. What is the stock's required rate of return?
3. A company currently pays a dividend of $2 per share (D0 = $2). It is estimated that the company's dividend will grow at a rate of 20% per year for the next 2 years, then at a constant rate of 7% thereafter. The company's stock has a beta of 1.2, the risk-free rate is 7.5%, and the market risk premium is 4%. What is your estimate of the stock's current price?
4. Assume that the average firm in your company's industry is expected to grow at a constant rate of 6% and that its dividend yield is 7%. Your company is about as risky as the average firm in the industry, but it has just successfully completed some R&D work that leads you to expect that its earnings and dividends will grow at a rate of 50% [D1 = D0(1 + g) = D0(1.50)] this year and 25% the following year, after which growth should return to the 6% industry average. If the last dividend paid (D0) was $1, what is the value per share of your firm's stock?
5. The standard deviation of stock returns for Stock A is 40%. The standard deviation
of the market return is 20%. If the correlation between Stock A and the market is
0.70, then what is Stock A's beta?
6. The beta coefficient of an asset can be expressed as a function of the asset's correlation with the market as follows: bi
bi = ρiMσi
σM
a. Substitute this expression for beta into the Security Market Line (SML), Equation 24-9. This results in an alternative form of the SML.
b. Compare your answer to part a with the Capital Market Line (CML), Equation 24-6. What similarities are observed? What conclusions can be drawn?
7. Suppose you are given the following information: The beta of Company i, bi, is 1.1; the risk-free rate, rRF, is 7%; and the expected market premium, rM - rRF, is 6.5%.
Assume that ai = 0.0.
a. Use the Security Market Line (SML) of the CAPM to find the required return for this company.
b. Because your company is smaller than average and more successful than average (that is, it has a low book-to-market ratio), you think the Fama-French threefactor model might be more appropriate than the CAPM. You estimate the additional coefficients from the Fama-French three-factor model: The coefficient for the size effect, ci, is 0.7, and the coefficient for the book-to-market effect, di, is -0.3. If the expected value of the size factor is 5% and the expected value of the book-to-market factor is 4%, what is the required return using the Fama-French three-factor model?