“Does the discount rate have anything to do with shopping and buying items at a discount?” Uh, no. The term discount rate does cause some uncomfortable looks of confusion from new investors. Mark Twain is reported to have said, “It is the difference of opinion that makes horse races.” This describes the stock market, too. The fact that everyone has a different required rate of return means that different investors will expect and demand different stock prices. Our results will vary widely depending upon our choice.
The predicted valuations are very sensitive to our chosen discount rate. The discount rate is the required rate of return that we choose to calculate the value of shares of a stock using the dividend discount models. The dividend discount models require a discount rate. The dividends are electronically deposited into your brokerage account but you get the idea.) (Well, actually, they don’t send you a check anymore. You know the dividends are not a lie because they sent you a check. This saying comes from the fact that all the numbers that a company reports on their financial statements could be total fabrications except for one, the dividends. “Dividends don’t lie,” is a famous saying. Dividends became important again to many investors. But those investors weathered the 2000-2002 downturn very well. Therefore, dividend discount models should be extremely popular, right? During the late 1990’s, investors who adhered to these types of models were considered old fashioned and outdated. The future cash flows from stocks come from their dividends. Recall that we stated that the value of a stock is based on the present value of its future cash flows. According to the dividend discount models, shares of stock are valued on the basis of the present value of the future dividend streams the stock is projected to produce. One popular group of models of fundamental analysis are the dividend discount models, often abbreviated as DDM or DVM for dividend valuation model.
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