CFA Practice Question

CFA Practice Question

A stock has a beta of 0.9 and the risk-free rate is 5%. Its dividend growth rate is 2.2% and the dividend payout ratio is 55%. If the market risk premium is 8%, the P/E ratio of the stock equals ______.
A. 4.9
B. 6.1
C. 5.5
Explanation: Using CAPM, the expected return on the stock equals 5% + 0.9 * 8% = 12.2%. Using the Dividend Discount Model, P/E = (dividend payout ratio)/(K - g). This gives P/E = 0.55/(12.2% - 2.2%) = 5.5

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