I will preface this to say that yes of course I researched my face off for hours. And while the equation itself is explained (give me numbers and I can do it) all over the internet, the WHY of what is included is not clicking.
WHY on the bottom part of the equation am I subtracting the growth rate from the expected rate of return? The words “that is the effective discounting factor” mean nothing to me. I understand the “time value of money” concept (and suspect it has something to do with this); I do not understand how these two *particular* factors are the ones you need (to be divided by dividend price of course) to help determine the stock’s appropriate pricing.
What do those two amounts have to do with anything? Please help!
Edit: By explaining simply, I mean very very simply, like the link below, in an analogy, not using any financial terms. I am not a finance student.
https://www.reddit.com/r/explainlikeimfive/comments/kji6n/eli5_compound_interest/?utm_source=share&utm_medium=ios_app&utm_name=iossmf
In: 2
An easy way to see it better is to rearrange it with algebra. D/p + g = r. That is to say the return is the dividend divided by the price plus how much the company grows. Companies growing fast can have high returns even without a dividend. Likewise larger older companies often have low growth but high dividends. These two combined are how much you gain. When you rearrange it you use the others to find the price. So if d is 2 and p is 100 then d over p is .02 and if growth is 6 percent or .06 then r is .08. Expected returns are 8 percent.
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