Question

You have $35,700 to invest in Sophie Shoes, a stock selling for $70 a share. The initial margin requirement is 80 percent. Do not round intermediate calculations. Round your answers to two decimal places. Use a minus sign to enter negative values, if any.

1. Ignoring taxes and commissions, calculate your rates of return if the stock rises to $80 a share and if it declines to $35 a share assuming you pay cash for the stock.

   Rate of return if the stock rises to $80 a share:   %

   Rate of return if the stock declines to $35 a share:   %

2. Ignoring taxes and commissions, calculate your rates of return if the stock rises to $80 a share and if it declines to $35 a share assuming you buy it using maximum leverage.

   Rate of return if the stock rises to $80 a share:   %

   Rate of return if the stock declines to $35 a share:   %

Answer 1

a]

If the stock rises to $80 :

rate of return = (ending price - purchase price) / purchase price

rate of return = ($80 - $70) / $70 = 14.29%

If the stock declines to $35 :

rate of return = (ending price - purchase price) / purchase price

rate of return = ($35 - $70) / $70 = -50.00%

b]

If the stock rises to $80 :

rate of return = (ending price - purchase price) / initial margin per share

initial margin per share = purchase price * 80% = $70 * 80% = $56

rate of return = ($80 - $70) / $56 = 17.86%

If the stock declines to $35 :

rate of return = (ending price - purchase price) / initial margin per share

rate of return = ($35 - $70) / $56 = -62.50%