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Present Value of Stock Formula:
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The Present Value of Stock formula calculates the current worth of a stock based on its expected future dividends, discount rate, and growth rate. This is a fundamental valuation method in finance known as the Gordon Growth Model or Dividend Discount Model.
The calculator uses the Present Value formula:
Where:
Explanation: The formula discounts future dividend payments to their present value, accounting for the time value of money and expected growth.
Details: Calculating present value helps investors determine whether a stock is overvalued or undervalued compared to its current market price. It's essential for fundamental analysis and long-term investment decisions.
Tips: Enter the expected annual dividend in USD, discount rate as a decimal (e.g., 0.08 for 8%), and growth rate as a decimal. The discount rate must be greater than the growth rate for the calculation to be valid.
Q1: What if the growth rate exceeds the discount rate?
A: The model becomes invalid as it would suggest infinite value. Growth rates must be less than discount rates for meaningful results.
Q2: How accurate is this model?
A: It works best for stable, dividend-paying companies with predictable growth. It's less accurate for high-growth or non-dividend paying stocks.
Q3: What time period should I use for the dividend?
A: Typically the next expected annual dividend payment. Some analysts use the most recent annual dividend as a starting point.
Q4: How do I determine the appropriate discount rate?
A: The discount rate often reflects the investor's required rate of return, which may be based on the risk-free rate plus a risk premium.
Q5: Can this model account for changing growth rates?
A: The basic model assumes constant growth. Multi-stage models are needed for changing growth rates over time.