eddy is considering a stock purchase. the stock pays constant annual dividend of $2.00 per share, and is currently trading at $20 . Eddy's required rate of return for this stock is 12%. should he buy this stock?
Since 12% of $2.40 and the stock only pays $2.00 a share, this stock doesn't meet Eddy's goal.
2/20 = 10%
It better go up by 2% a year :)
2/x = .12
x = 2/.12 = 16 2/3
If he wants 12% in dividends, he better not pay any more than 16.67 dollars for the stock.
Another thought -- if the price of the stock increases (and that's a big IF), then it might more than fulfill his goal.
To determine whether Eddy should buy this stock, we need to calculate the stock's expected return and compare it to Eddy's required rate of return.
First, let's calculate the expected return. The expected return can be found by adding the dividend yield (dividend per share divided by stock price) to the capital gains yield (expected increase in stock price). In this case, as the stock pays a constant annual dividend, the dividend yield is $2.00 divided by the stock price ($20.00), which equals 0.10 or 10%.
Next, let's calculate the capital gains yield. The capital gains yield is the expected increase in stock price divided by the stock price. Since we don't have information about the expected increase in stock price, we can assume it to be zero, as there is no expected growth mentioned in the question. Therefore, the capital gains yield is 0.
Now, let's calculate the expected return by summing up the dividend yield and the capital gains yield. In this case, the expected return would be 10% + 0% = 10%.
Finally, we can compare the expected return (10%) to Eddy's required rate of return (12%). Since the expected return is lower than Eddy's required rate of return, it is not advisable for Eddy to buy this stock.
In summary, based on the provided information, Eddy should not buy this stock as the expected return (10%) is lower than his required rate of return (12%).