Question

Problem 4-01

You purchase 100 shares for $70 a share ($7,000), and after a year the price rises to $80. Calculate the percentage return on your investment if you bought the stock on margin and the margin requirement was (ignore commissions, dividends, and interest expense):

1. 20 percent. Round your answer to one decimal place.

     %

2. 30 percent. Round your answer to one decimal place.

     %

3. 75 percent. Round your answer to one decimal place.

     %

Answer 1

Given that,

100 shares were purchased at $70

Portfolio value = $7000

price after 1 year = $80

So, profit = (new price- old price)*number of share = (80-70)*100 = $1000

a). when margin requirement is 20%

own fund used = margin*portfolio value = 20% of 7000 = $1400

percentage return= profit/own fund = 1000/1400 = 71.43%

b). when margin requirement is 30%

own fund used = margin*portfolio value = 30% of 7000 = $2100

percentage return= profit/own fund = 1000/2100 = 47.62%

c). when margin requirement is 75%

own fund used = margin*portfolio value = 75% of 7000 = $5250

percentage return= profit/own fund = 1000/5250 = 19.05%