Question

Cosmo has a margin account with a balance of $50,000 with a national broker-dealer. The initial margin requirement on this account is 50%. Cosmo is interested in purchasing shares of Ardvark, Inc., which is currently selling at $40 per share.

1. Given the above information, how many shares of Ardvark can Cosmo purchase on margin?

A. 625

B. 1,250

C. 2,000

D. 2,500

2. If Cosmo purchases 1,000 shares of Ardvark on margin and the price subsequently increases to $50 per share, what is his profit?

A. $5,000

B. $10,000

C. $20,000

D. $50,000

3. If the maintenance margin is 40%, to what price can shares of Ardvark fall before Cosmo receives a margin call?

A. $16.00

B. $24.00

C. $33.33

D. $37.50

Answer 1

1.) Initial Margin amount: 50% of $25,000 = $12,500

Price per share of Ardvark Inc. is $40

Number of shares that can be purchased are = $12,500/$40

= 625 Shares - Option A

2.) Buying amount of 1000 shares of Ardvark Inc. : $40*1000 = $40,000

Selling Amount of 1000 shares of Ardvark Inc. : $50*1000 = $50,000

Profit: $10,000 ($50,000 - $40,000) - Option B

3.) Considering Cosmo buys shares for the amount of Initial margin i.e. $25,000

Initial margin is 50% of $50,000 i.e. $25,000

Maintenance margin is 40% of $50,000 i.e. $20,000

Cosmo can buy 625 Shares at $25,000 ($25,000/$40)

And Cosmo can buy 500 Shares at $20,000 ($20,000/$40)

Percentage decrease in number of shares : (625-500)/625 = (125/625)*100 = 20%

Therefore, till 20% fall in price of Share the Cosmo will not receive any margin call.

That accounts to $40 - 20% of $40 = $40 - $8 => $32

Option C is the closest one to $32, so $33.33 is the amount till the shares of Ardvark fall before Cosmo receives a margin call