Which one of the following statements is correct?
a. The capital gains yield is the annual rate of change in a stock's price.
b. Preferred stocks have constant growth dividends.
c. A constant dividend stock cannot be valued using the dividend growth model.
d. The dividend growth model can be used to compute the current value of any stock.
e. An increase in the required return will decrease the capital gains yield.
Capital Gains Yield:
The capital gains yield of an asset is the percentage gain an investor earns from the appreciation of the asset price. This contrasts with returns an investor gets from asset yields.
Answer and Explanation:
The correct answer is:
a). capital gains yield is the percentage increase in the price of an asset, such as a stock
b) is incorrect because preferred stocks pay a fixed dividend, not dividend with a constant growth rate.
c) A constant dividend stock simply has a growth rate that is equal to zero, and hence could still be valued using the dividend growth model. Hence c) is incorrect.
d) is incorrect because the dividend growth model cannot be used to value (1) stocks that do not pay dividend; (2) stocks with a dividend growth rate that is higher than the discount rate.
e) is incorrect because the capital gains yield is equal to the dividend growth rate in equilibrium. Hence, an increase in required return does not affect the capital gains yield.
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from Finance 101: Principles of FinanceChapter 14 / Lesson 3