You are considering an investment in Keller Corps stock, which is expected to pa

Question

You are considering an investment in Keller Corps stock, which is expected to pay a dividend of $2.00 a share at the end of the year (D1 = $2.00) has a beta of 0.9. The risk-free rate is 3.5%, and the market risk premium is 5.3%. Keller currently sells for $39.00 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 3 years? (That is, what is P??3 ?) Round your answer to two decimal places.

Explanation / Answer

Required rate of return = Risk-free rate + beta*Risk premium

Required rate of return = 3.5% + 0.9*5.3%

Required rate of return = 8.27% = 0.0827

Constant growth rate,

g = k - D1/P

g = 0.0827 - 2/39

g = 0.031418 or 3.1418%

Stock price at the end of 3 years = $39 (1+0.031418)3

Stock price at the end of 3 years = $42.79

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