Calculating First Moments and Confidence Intervals for Generalized Stochastic Dividend Discount Models

Abstract

This paper presents models of equity valuation where future dividends are assumed to follow a generalized Bernoulli process consistent with the actual dividend payout behavior of many firms. This uncertain dividend stream induces a probability distribution of present value. We show how to calculate the first moment of this distribution using functional equations. As well, we demonstrate how to calculate a confidence interval using Monte Carlosimulation. This first moment and interval allows an analyst to determine whether a stock is overor under-valued.