Question

In: Finance

Ms. Bodkin bought 500 shares of common stock of ABC Ltd. at $60 a share a...

Ms. Bodkin bought 500 shares of common stock of ABC Ltd. at $60 a share a few years ago. Currently, price per share of ABC's stock is $100. Suppose she takes a short position of 400 shares at the current price of $100. For the following possible spot price on the settlement date, denoted by S1, calculate capital gain(loss) for her total position in ABC's stock: (i)St = $120 (ii) St = $40 Does her short position of 400 shares provide a perfect or a partial edge? Explain.

Expert Solution

ANSWER DOWN BELOW. FEEL FREE TO ASK ANY DOUBTS. THUMBS UP PLEASE.

Current shares in portfolio = 500

Short position = 400

A.

1. At S= 120

Profit from 500 shares = 500*(120-60) = 30,000

Profit from 400 shares = -400*(120-100) = -8000

Net profit = 22,000

2. 1. At S= 40

Profit from 500 shares = 500*(40-60) = -10,000

Profit from 400 shares = -400*(40-100) = 24,000

Net profit = 14,000

B.

The short position provides a partial Hedge.

As it hedges only 400 shares out of 500 shares.

A perfect hedge would be of shorting 500 shares (instead of 400 shares).

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