Summary of Reinvesting Dividends 1
Suppose you purchase 1 share of stock for a price P0= $100. One year from now,
the stock pays a dividend D1= $2 and sells for price P1= $106. Two years from
now, the stock pays another dividend D2= $2 and sells for price P2= $110 (Note:
P1and P2are the prices just after the dividends are paid). Assuming you reinvested
the D1in the stock, what is your holding period return over the two years? There
are two ways to calculate the holding period return, each giving the same answer:
•Method 1
Recall the computation from the course pack reading “Geometric Average
Versus Arithmetic Average”. In this reading, the holding period return on an
investment in a mutual fund was shown to equal
HPR = [(1 + R1)(1 + R2)]1/2−1,
where R1was the return over the first year and R2was the return over the
second.
