Business College

The 15-year average return for the S&P 500 from January 1973 to December 2016 (29 separate 15 year periods) was as high as a 20% average annual return and as low as a 3.7% average annual return. Additionally, the average dividend yield for the S&P is 4.11% and the average annual dividend growth rate is 6.11%.

Using this information, please compare the investment in the 5% 15-year corporate bond with a $100,000 investment in a stock with a 3.7% dividend yield (10 percent less than the S&P 500 average yield) and a 3% dividend growth rate (50 percent of the S&P 500 dividend growth rate).

The annual investment returns are as follows:
Year 1 (13.40%) Year 2 (23.37%) Year 3 26.38% Year 4 8.99%
Year 5 3.00% Year 6 13.62% Year 7 3.53% Year 8 (38.49%)
Year 9 23.45% Year 10 12.78% Year 11 0.00 Year 12 13.41%
Year 13 29.60% Year 14 11.39% Year 15 (0.73%)


The bond interest payment of 5 percent is paid annually and not reinvested. To compare accurately with the bond investment, the stock dividend will not be reinvested, but paid annually as well.


Please calculate the value of the stock account at the end of each year and the dividend income from the stock on an annual basis.


Once you have performed the calculations, please let me know if you prefer to invest in a 5% corporate bond for 15 years or the stock and why.


What is the value of the stock after year 2? Year 8? Year 11? When does the annual dividend income of the stock exceed the annual interest income of the bond?

Answers

Answer 1

1. The value of the stock account after Year 2 is $155,401.626.

2. The value of the stock account after Year 8 is $96,110.0674.

3. The value of the stock account after Year 11 is $96,110.0674.

4. The annual dividend income of the stock exceeds the annual interest income of the bond at the end of Year 15.

Bond interest rate: 5%

Stock dividend yield: 3.7% (10% less than S&P 500 average yield)

Stock dividend growth rate: 3% (50% of S&P 500 dividend growth rate)

We'll assume an initial investment of $100,000.

Year 1:

Bond interest income: $100,000 * 0.05 = $5,000

Stock dividend income: $100,000 * 0.037 = $3,700

Value of stock account: $100,000 + ($100,000 * 0.2337) = $123,370

1. Year 2:

Bond interest income: $100,000 * 0.05 = $5,000

Stock dividend income: $100,000 * 0.037 = $3,700

Value of stock account: $123,370 + ($123,370 * 0.2638) = $155,401.626

2. Year 8:

Bond interest income: $100,000 * 0.05 = $5,000

Stock dividend income: $100,000 * 0.037 = $3,700

Value of stock account: $155,401.626 + ($155,401.626 * (-0.3849)) = $96,110.0674

3. Year 11:

Bond interest income: $100,000 * 0.05 = $5,000

Stock dividend income: $100,000 * 0.037 = $3,700

Value of stock account: $96,110.0674 + ($96,110.0674 * 0) = $96,110.0674

4. At the end of Year 15, the dividend income of the stock exceeds the interest income of the bond.

Stock dividend income: $100,000 * 0.037 = $3,700

Bond interest income: $100,000 * 0.05 = $5,000

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