As an investment advisor, you have been asked to pick one the following 3 stock options for your latest client. The client will be investing $25,000 in whichever option you pick. Your clients plans to hold the investment over the long run, so is not particularly concerned with "quick money."
Option Market Price Current Dividend Expected Firm
Common Shares $25.50 $.80 5.0%
Preferred Shares $14.76 $1.25 3.5%
Risky Venture $3.75 ------- 40% for first 4 years, 25% for next 5 years, 8.5% thereafter
You have also learned that a majority of stock analysts expected that the risky venture will begin paying a dividend of $0.25 in five years. The market demands are percent return on most equity investments, and demands a 15% return for risky shares.
a) what should you be willing to pay for each investment given the available information.
b) over a 15 year period, what is your expected annual rate return for each option?
c) if inflation is expected to be 4% annually what price should you be willing to pay for shares?
