Comparing dividend discount model with residual income model

Subject Areas : Futurology

R.  Shabahang ¹ (ندارد)
علی  Rouhi ² (ندارد)

Received: 2015-01-14 Accepted : 2015-01-14 Published : 2005-09-23

Keywords:

Abstract :

One of the most important function of stock markets is stock pricing Dividend discount model(DDM) is a very traditional model to calculate stick prices. According to this model stock price isequal with present value of all of futures cash flows that will be generated from stock (dividend andsale price). In contrast, according to Residual Income Model (RIM) stick price is equal with sum ofbook value and present value of future residual incomes.Residual income model caused to create a very strong relation between accounting, finance andeconomic concepts, because it uses residual income and it is equal with:Net income- (required rate of return * book value of stock). Residual income named goodwill oreconomic profit. To calculating required rate of return we use CAPM (capital assets pricing model).Thus we will have Risk and Return together. When we explain residual income we are speakingabout “creation of wealth” , and when we explain about dividend discount model we are speakingabout “distribution of wealth”, with this matter our hypotheses is:“Creation of wealth approach is more suitable to calculate stock price on comparing withdistribution of wealth approach”.Analyzing data with using regression models indicated:RIM is more accurate to analyze and prediction of stock prices on comparing with DDM.