solution
Problem 16-30 Dividends and taxes
Suppose that there are just three types of investors with the following tax rates:
| Individuals | Corporations | Institutions | ||||||||||
| Dividends | 50 | % | 15 | % | 0 | % | ||||||
| Capital gains | 15 | 45 | 0 | |||||||||
Individuals invest a total of $81.8 billion in stock and corporations invest $12.16 billion. The remaining stock is held by the institutions. All three groups simply seek to maximize their after-tax income.
These investors can choose from three types of stock offering the following pretax payouts per share:
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Order Paper Now| Low Payout | Medium Payout | High Payout | ||||||||||
| Dividends | $ | 5 | $ | 5 | $ | 34 | ||||||
| Capital gains | 15 | 5 | 0 | |||||||||
These payoffs are expected to persist in perpetuity. The low-payout stocks have a total market value of $101.8 billion, the medium-payout stocks have a value of $51.8 billion, and the high-payout stocks have a value of $121.8 billion.
- Who are the marginal investors that determine the prices of the stocks?
- Suppose that this marginal group of investors requires an after-tax return of 15%. What are the prices of the low-, medium-, and high-payout stocks?
- Calculate the after-tax returns of the three types of stock for each investor group.
- What are the dollar amounts of the three types of stock held by each investor group?
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