One of the fundamental building blocks taught in the CFA is the dividend discount model or DDM. In Chapter 4 of the Equity Management book, empirical studies would succeed at demolishing the explanatory power of DMM when it comes to stock returns.
For the novices, the dividend discount model is basically the idea that a stock price should be the net present value of all future dividend payments.
V = D1/(1+r) + D2/(1+R)^2 + D3/(1+r)^3 +….
If dividends grow at a constant rate, the equation collapses to V = D1 / (r – g)
V = Price of the Stock
Dx = Dividend in year x.
r = risk free interest rate
g = rate of dividend growth
If you read a brokerage report which employs the dividend discount model, you can now objectively take those results with a pinch of salt. There are simply too many variables which require a future prediction …