The Dividend Discounts Model And Arbitrage Discount Model

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There are different asset pricing models used in establishing the required rate of return for different types of assets. The models, including the capital asset pricing model (CAPM), the Arbitrage Pricing Theory (APT), and the Dividend Discount Model (DDM) use several assumptions regarding the information available to investors to establish the value of assets. Information is essential in the financial markets, it influences investors decision to invest and how successful is the investment if one gets it right. This is achieved after investors incorporate this information in their assets pricing models such as the Capital asset pricing model (CAPM) and the Arbitrage pricing model (APT). both models are build on assumptions which explain the …show more content…
The CAPM only considers single risk factor that it the covariance of an asset to the market portfolio, where the APT acknowledge different factors that can influence the return of an assets and these factors can change over time.

Furthermore, the Dividend Discount Model DDM which is used to estimating a stock price by discounting its predicted dividends to its present value. By doing so, the estimated price and the stock market value are compared and its determined if the stock is under or over valued. (Investopedia)
The DMM model main assumption is that dividends grow on a fixed and constant rate.In addition, the model applies other assumptions regarding the growth rate and required rate of return.in order to evaluate a stock value using this model one must calculate the future cash flows generated by the company in the coming years.
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According to the CAPM assumptions, all investors have the same information and analysis intuition which leads the to reach to the same conclusion and invest in the same optimal portfolio. Recognizing this important assumption in the CAPM model leads us to the impression that it is not advisable for investors to seek information if the cost is to high to cover the benefits that could have been added. furthermore, the APT model suggests that at equilibrium there should not be any arbitrage opportunity, hence acquiring additional information at a cost should not be

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