COMMERCE 2FA3 Lecture Notes - Lecture 4: Futures Contract, Liquidity Premium, Current Yield
10 Apr 2017
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Information needed to value common stocks: predicted stock dividends: predicted stock dividends & discount rate. Methods of estimating ke and g are prone to error. (constant growth model parameters) (differential growth) Estimate future dividends up to constant growth period. Estimate future stock price (using constant growth model) when stock goes constant growth. Sum pv of estimated dividends and future stock price appropriately discounted. We need: discount rate (ke), growth rate in early place (gh), mature growth rate (g), duration of initial growth period (t), and dividend expected next period (d1 or d0*(1+gh)). Call option: right to buy specified number of underlying at specified price up to specified date. Put option: right to sell specified number of underlying at specified price up to specified date. European options can be exercised only at end. American options can be exercised at any time. Prior to expiry it is complex to value options.
