The market price of a share of preferred stock is $21.96 and the dividend is $2.85. What discount rate did the market use to value the stock?

Answer 1

To find the discount rate used to value the preferred stock, we can use the formula for the price of preferred stock:

\[ \text{Price} = \frac{\text{Dividend}}{r} \]

Where:

• Price is the market price of the preferred stock ($21.96)
• Dividend is the annual dividend ($2.85)
• \( r \) is the discount rate (or required rate of return)

Rearranging the formula to solve for \( r \):

\[ r = \frac{\text{Dividend}}{\text{Price}} \]

Now, substituting the given values:

\[ r = \frac{2.85}{21.96} \]

Calculating \( r \):

\[ r \approx \frac{2.85}{21.96} \approx 0.1296 \]

So, the discount rate is approximately:

\[ r \approx 0.1296 \text{ or } 12.96% \]

Therefore, the market used a discount rate of approximately 12.96% to value the preferred stock.