1. Perform the following calculations assuming an 8% required rate of return in all cases. Show your work as indicated in the space provided. Record your final answer rounded to 2 decimal places in the box.
a. Using the one period valuation model, calculate the expected current price of a stock if its price at the end of this year is forecasted to be $83.54 and it pays an annual dividend of $3.05 at the end of the year. Show your work here
b. Using the Gordon Growth model, calculate the expected current price of a stock if its most recent dividend payment was $1.07 and analysts are forecasting a dividend growth rate of 5% annually. Show your work here
2. Refer to your answers to question number 3a. Suppose the observed price of the stock from 3a is $84, is it a good buy? Explain why or why not.
3. According to the Gordon Growth model, stocks can be valued solely based on their dividend payments, the expected growth rate of those dividends, and the required rate of return.
a. How come we needn't include the future sale price of the stock in the valuation?
b. Some stocks have not paid dividends for many years and have no announced plan to pay dividends in the near future. How can these stocks still have value?
4. Minimum capital requirements for banks are an extremely important financial regulation.
a. Explain how deposit insurance creates a moral hazard problem in the banking sector.
b. Explain how requiring banks to hold more equity capital helps reduce the moral hazard problem created by deposit insurance.
c. How does a larger capital cushion make banks more resilient during a financial crisis?
d. Why is it important for capital requirements to be adjusted by regulators to allow for the business cycle?