You are considering an investment in Keller Corp\'s stock, which is expected to

Question

You are considering an investment in Keller Corp's stock, which is expected to pay a dividend of $2.30 a share at the end of the year and has a beta of 1.80. The risk-free rate is 3.80%, and the market risk premium is 5.80%. Keller currently sells for $117.00 a share, and its dividend is expected to grow at some constant rate g. Assuming the market is in equilibrium, what does the market believe will be the stock price at the end of 5 years?

ANSWER OPTIONS:

$234.82,   $208.73, $152.49, $183.88

ANSWER OPTIONS:

$234.82,   $208.73, $152.49, $183.88

Explanation / Answer

Using CAPM model,

Expected return = risk free rate + beta * risk premium

= .038 + 1.8*.058 = 14.24%

now need to calculate value of "g"

expected return = dividend/price + g

.1424 = 2.3/117 + g

so g = 12.27%

so price of stock after 5 years = 117 * (1+.1227)^5 = $ 208.73

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