Question

Question 11

You would like to buy 200 shares of AAA Corporation which is currently selling for $x per share (x is calculated by multiplying the last digit of your student ID number by 10, if the last digit is zero, use 100). The initial margin is 60% and maintenance margin is 40%. Calculate how much money you would need to provide and how much you would borrow.

You sell the stock one year later after the price has increased by 30%. If the interest rate on a margin loan was 10% p.a. and the stock paid a dividend per share (DPS) of $2 during the year.

i) How much money would you have in your account after you sold the stock and repaid the loan?

ii) What is the rate of return on your investment?

iii) What would be the rate of return if no margin is used?

Note:

• Include the following information in your answer o The initial price of the stock o The amount of money you would borrow o The amount in your account at the end of the year o The rate of return of your investment

• To show your workings

• When calculating the investment rate of return in %, show explicitly the amount you earned compared with the amount you invested.

Can anyone help me to calculate i)-iii)?

Answer 1

Initial price = xxxxxx0 * 10 =100

Therefore let the initial price be $100

Quantity purchases = 200

investment = $20,000

Initial Margin requirement = 60%

Initial margin = $12000

Borowed = $8000

Maintainance margin requirement = 40%

This means that the equity of the investor shall not go below 40% of the total equity.

For example, suppose the price fell to $50 and the value of investment drops to $10,000 out of which $8000 is borrowed and needs to be repaid, in this case the broker will initiate a margin call where you must maintain 40% of the total value of shares.

Selling price = $130

Dividens recived =$2

Profit per share = $32

Amount received after selling = 200*130 = $26000

Dividens received = $400

Total profit = 32 * 200 = 6400

Interest paid = 10% of 8000 = $800

Net profit = $5600

i) Balance in account afer selling and paying loan = initial amount + profit = 12000 + 5600 = $17600

ii) rate of return on investment = profit/ investment = 5600 / 12000 = 46.67%

iii) if no margin used, we would be able to purchase stocks for only $12000

we could purchase only 120 shares

Profit per share including dividend = $32

Total profits = 32*120 =3840

Rate of return = 3840/12000 = 32%