Assignment:
Suppose that there are only three types of investors with the following tax rates:
Individuals Corporations Institutions
Dividends 50% 5% 0%
Capital gains 15 35 0
Individuals invest a total of $80 billion in stocks and corporations invest $10 billion. The remaining stocks are held by the institutions. All three groups simply seek to maximize their after tax income. These investors can choose from three types of stocks offering the following pretax payouts:
Low Payout Medium Payout High Payout
Dividends $5 $5 $30
Capital gains 15 5 0
These payoffs are expected to persist in perpetuity. The low-payout stocks have a total market value of $100 billion, the medium-payout stocks have a value of $50 billion, and the high-payout stocks have a value of $120 billion.
a) Who are the marginal investors that determine the prices of the stocks?
b) Suppose that this marginal group of investors requires a 12 percent after-tax return.
What are the prices of the low-, medium-, and high-payout stocks?
c) Calculate the after-tax returns of the three types of stocks for each investor group.
d) What are the dollar amounts of the three types of stocks held by each investor group?