2.1 Calculate the expected return on a share I
View the video to see the first in a series of three worked examples showing how to calculate the expected return on a share.
Transcript: Calculating expected return part 1
Calculate the following:
(a) the expected return on a share where:
the expected dividend next year is 10 pence,
the current market value of the share is 90 pence, and
the growth rate in dividends is forecast at 6 per cent
(b) the dividend yield using next year’s expected dividend.
Part (a). Let’s use the Gordon Growth variation of the dividend valuation model, which is rearranged to find the expected return, whereby the expected return on a share (E(Ri)) is equal to the expected dividend next year (D1), divided by the current price of the share (Pi) plus the growth rate of dividends (g) from investing in the share.
Let’s put the figures from the question in: 10 pence divided by 90 pence, plus the growth rate of 0.06 or 6 per cent.
Therefore, the expected return on the share is 0.1711 or 17.11 per cent.
Part (b).To find the dividend yield, we can divide the expected dividend next year (D1) by the current price of the share (Pi).
This means that we divide 10 pence by 90 pence. It gives us a dividend yield of 0.1111 or 11.11 per cent.