You are thinking about purchasing stock in IBM and hold it for 3 years. IBM prom

Question

You are thinking about purchasing stock in IBM and hold it for 3 years. IBM promises to pay $10, $12, $15 in dividends at the end of the next three years, respectively. You expect to be able to sell the stock for $125 at the end of the third year. If other similar investments pay you 10% annual yield and the stock is currently trading at $120, is this a good buy? 6. Suppose you plan to save $1,000 today, and $1,000 at the end of each of the next two years. If you earn a fixed 10% interest rate on your savings, how much will you have three years from today? 7. After an intense first year of college, you and your buddies are trying to save money for a graduation trip. You have $200 now, and you think you can save $1,000 by the end of each of the next three years. With a 5% yield on CDs, how much will you have in your account upon graduation? 8.

Explanation / Answer

Answer 6.

D1 = $10
D2 = $12
D3 = $15
P3 = $125

Annual Yield = 10%

Intrinsic Value = $10/1.10 + $12/1.10^2 + $15/1.10^3 + $125/1.10^3
Intrinsic Value = $124.19

Current price is $120 which is lower than the intrinsic value, so, it is a good buy.

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