P6-1: You purchase 1,000 shares of Spears Grinders, Inc. stock for $45 per share. A year later, the stock pays a dividend of $1.25 per share, and it sells for $49. a.
Calculate your total dollar return.
1,000 ($1.25 + $4) = $5,250 b.
Calculate your total percentage return.
($49 + $1.25 - $45)/$45 = 0.1167 or 11.67%. c.
Do the answers to parts (a) and (b) depend on whether you sell the stock after one year or continue to hold it?
The answer does not depend on whether you sell the stock or hold it.
P6-2: A financial adviser claims that a particular stock earned a total return of 10% last year. During the year the stock price rose from $30 to $32.50. What dividend did the stock pay?
0.10 = ($32.50 + D - $30)/$30 which means D = $0.50
Suppose that over the long run, the risk premium on stocks relative to Treasury bills has been 7.6% in the United States. Suppose also that the current Treasury bill yield is 1.5%, but the historical average return on Treasury bills is 4.1%. Estimate the expected return on stocks and explain how and why you arrived at your answer.
Based on T-bills, the expected return on stocks is 1.5% +
7.6%=9.1%. Based on historical T-bill yields, the expected
return is 4.1% + 7.6%= 11.7%. In other words, the current
expectation is 9.1%, but this can be expected to rise to 11.7%
over the long run. b.
Suppose that over the long run, the risk-premium on stocks relative to Treasury bonds has been 6.5%. The current Treasury bond yield is 4.5%, but the historical return on T-bonds is 5.2%. Estimate the expected return on stocks and explain how and why you arrived at your answer.
Based on T-bonds, the expected return on stocks is 6.5% +
4.5%= 11% now. Based on historical returns, the expected
return in 5.2% + 6.5%= 11.7%
Compare your answers above and explain any differences.
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