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Problem 11-08

Two stocks each currently pay a dividend of $1.90 per share. It is anticipated that both firms dividends will grow annually at the rate of 3 percent. Firm A has a beta coefficient of 1.1 while the beta coefficient of firm B is 0.87.

Stock A: $

Stock B: $

The beta coefficient of -Select-stock Astock BItem 3 is higher, which indicates the stock's return is -Select-lessmoreItem 4 volatile.

Stock A is -Select-undervaluedovervaluedItem 5 and -Select-shouldshould notItem 6 be purchased.

Stock B is -Select-undervaluedovervaluedItem 7 and -Select-shouldshould notItem 8 be purchased.

1. If U.S. Treasury bills currently yield 3.9 percent and you expect the market to increase at an annual rate of 8.2 percent, what are the valuations of these two stocks using the dividend-growth model? Do not round intermediate calculations. Round your answers to two decimal places.
2. Why are your valuations different?
3. If stock As price were $43 and stock Bs price were $57, what would you do?