Ivonne has bought shares of RIO, Inc. stock for $25.00 per share. She expects a 1.00 dividend at the end of this year. After 2 years, she expects to receive a dividend of $1.25 and to sell the stock for $28.75. What is Ivonne's required rate of return

24%

Explanation:

D1 = $, D2 = $1.25

P0 = $25

CF2 = $28.75

r = ?

Use the expected cash flows model

D1 will be expected cash flow in year 1

D2 wiill be expected cash in year 2

So in year 2 CF will be $1.25+$28.75 = $30

R in year 1 = 1/25 = 4%

R year 2 = 30-25/25 = 20%

therefore return is 24%

=

24%

Explanation:

Present value of stock: $25

Cash flow in year 1: $1.00

-> return in year 1 = $1.00 / $25 = 4%

Cash flow in year 2: $1.25 + $28.75 = $30

-> return in year 2 = ($30-$25) / $25 = 20%

Required rate of return in 2 years = return in year 1 + return in year 2

= 4% + 20% = 24%