What am I missing - equity risk premium question, driving, equity

bkballa

this is driving me nuts
pg346 CFAI equity book (question is on pg 348, number 19)
Current level of S&P500 is 1200
Current div on the S&P500 is 30
Long term US gov bond yield is 4.75
Future earnings growth rate of the S&P500 is 6.75
The gordon growth model estimate of equity risk premium is closest to:
the answer is 4.67%
R=D1/E0 + G
I get the D1/E0 part, but not G
The have G as = .0675-.0475. Why? What am I missing?

manasib

rf = 4.75
30*1.0675 = D1
D1/E0 = 30*1.0675/1200 = R-G
R = 30 * 1.0675 / 1200 + 0.0675
This R = RM
ERP = RM-RF
so subtract 0.475 from it
so 1.0675 * 30 / 1200 + 0.0675 - 0.0475 = 4.67%

bkballa

I’m such an idiot…I thought in my head the return of the S&P as a stock return for the asset - in this case the “asset” is the market…
stupid mistakes are going to be the death of me..

morebeans

Or solve for R_ce using DDM, then plug into CAPM.