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5. The S&P 500 was trading at 21.2 times earnings on December 31,1993 . On the same day, the dividend yield on the index was
5. The S\&P 500 was trading at 21.2 times earnings on December 31,1993 . On the same day, the dividend yield on the index was 2.74%, and the Treasury bond rate was 6%. The expected growth rate in real GNP was 2.5%. a. Assuming that the S\&P 500 is correctly priced, what is the inflation rate implied in the PE ratio? (Assume stable growth and a 5.5% risk premium.) b. By February 1994, Treasury bond rates had increased to 7%. If payout ratios and expected growth remain unchanged, what would the effect on the PE ratio be? c. Does an increase in interest rates always imply lower prices (and PE ratios)
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