One of the ways to value the share price of a stock is using the dividend valuation

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Question:

One of the ways to value the share price of a stock is using the dividend valuation model. It consists of calculating the present value of all future dividends from the stock. Assuming a constant growth in future dividends, the formula for the price of stock today is:

P 0 = D 1 r − g

where D1 is the annual dividend expected to be paid next year, r is the required rate of return for the stock, and g is the annual growth rate of future dividends.

For example, from the following website and using the historical dividend amount,

https://finance.yahoo.com/quote/IBM/history?period1=1441868400&period2=1568098800&interval=div%7Csplit&filter=div&frequency=1d

one can estimate the annual dividend growth rate to be about 5%. Assuming the required rate of return 15%, and next year's dividend of $6.52 (=1.63 x 4), one can estimate the stock price to be:

P0=D1r−gP0=D1r−g = =(1.63×4).15−.05=$65.20=(1.63×4).15−.05=$65.20

This estimated price is significantly lower than the current market price of about $124 (as of March 8, 2021). In other words, the current market price is significantly over-priced.

For your initial discussion post, choose a stock that has paid a steady stream of dividends. Estimate the stock price using the dividend valuation model explained.Make sure you use a reasonable required rate of return r (10-25%) that is greater than the dividend growth rate g.

Compare the estimated price with the current market price and comment on whether the current price is over-valued, fairly-valued, or under-valued. Provide some possible explanations as to why your estimated price is different from the current market price.