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24 October, 01:31

Bayside Marina just announced it is increasing its annual dividend from $1.45 per share to $1.48 per share effective immediately. If the dividend yield remains at its pre-announcement level, then you know the stock price:

A. was unaffected by the announcement

B. increased proportionately with the dividend increase

C. decreased proportionately with the dividend increase

D. decreased by $0.03 per share

E. increased by $0.03 per share

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Answers (1)
  1. 24 October, 02:40
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    The correct option B, stock price increased proportionately with the dividend increase

    Explanation:

    To a rational investor, the price tag on a share is given by the expected dividend divided by the investor's rate of return.

    To illustrate this further, the increase in dividend in percentage terms is calculated thus:

    = ($1.48-$1.45) / $1.45=2.07%

    The divided has increased by 2.07%

    Assuming investor's rate of return is 10%, we can calculate the price of the stock when dividend is $1.45 as well as when it is $1.48

    price=$1.45/0.1=$14.5

    price=$1.48/0.1=$14.8

    The increase in price is computed thus:

    (14.8-14.5) / 14.5=2.07%

    There is no doubt that an increase in dividend of 2.07% brought about the same increase share price, hence choice of answer.
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