33. In this exercise we’ll explore beta, portfolio theory’s measure of risk, and its theoretical impact on stock prices.

Enter Thomson ONE for each of the five companies we’ve been working with, Sherwin Williams (SHW), General Motors (GM), Harley-Davidson (HOG), Starbucks (SBUX), and Microsoft (MSFT). Find and record the company’s beta.

Also look up and record the betas of General Mills (GIS), a large food processing company with a low beta, and Yahoo (YHOO), a provider of internet services with a high beta.

Computations with Beta Evaluate the impact of different betas by calculating the required return on each company using the SML (equation 9.4 on page 398). Assume kM is 12% and kRF is 5%. How large is the variation between the smallest and largest required return?

Now make a hypothetical price calculation using the Gordon model (see page 401) and the returns you’ve just calculated. In each case assume the last dividend paid was $1, and the expected growth rate is 4%. You should see that the price difference generated by real betas under the assumption that dividends and growth rates are equal is very large.

But these things generally are not equal. Companies that issue high-risk stocks are often expected to grow rapidly and pay small or no dividends. Using your Gordon Model results, find the growth rate assumption about the highest beta stock that will equate its price with that of the lowest beta stock. (Write the Gordon Model still assuming a $1 dividend, substitute the high beta return for k, and set the resulting expression equal to the low beta price. Then solve for g.)

What growth rate assumption would result in the same price for the highest beta stock if it paid a dividend of $.50 instead of $1?