Answered: Understanding the returns from…

Pfin (with Mindtap, 1 Term Printed Access Card) (mindtap Course List)

7th Edition

ISBN:9780357033609

Author:Randall Billingsley, Lawrence J. Gitman, Michael D. Joehnk

Publisher:Randall Billingsley, Lawrence J. Gitman, Michael D. Joehnk

Chapter4: Managing Your Cash And Savings

Section: Chapter Questions

Problem 9FPE

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Understanding the returns from investing

When buying stock, you can expect to earn money through future current income (from____________________________ ) and future capital appreciation (from_______________________________ ). Together, your total earnings from a given investment can be expressed in terms of the approximate yield. This value makes it easier for you to compare investment options.

Understanding the Approximate Yield Equation

The formula for the approximate yield of an investment can look intimidating, but it’s really just a function of three things: (1) average current income, (2) average capital gains, and (3) the average value of the investment. Based on the information in the table, compute each of these values for the two stocks over a 3-year period and enter the values into the bottom half of the table.

	Stock 1	Stock 2
Expected average annual dividends (2012–2014)	$1.00	$2.70
Current stock price	$55	$117
Expected future stock price (2014)	$67	$147
Average current income (CI)	$ ________________________	$ _____________________
Average capital gains (CG)	$ ________________________	$ _____________________
Average value of the investment (VI)	$ ________________________	$ _____________________

Next, derive the correct formula for approximate yield by correctly arranging these three variables in the equation that follows.

Approximate Yield = _________________/____________________

Using this formula, you can see that the approximate yield for Stock 1 is _________________________ and the approximate yield for Stock 2 is _________________________ .

True or False: For these investments to be equally attractive, Stock 2 must carry lower risk than Stock 1.

False_______________

True________________

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