Hello, I’ve been trying to work out the answer to this question (Schweser 2014 Morning Mock exam) but have had no luck.
Q95) An investor bought a stock on margin one year ago when its price was $50. The margin requirement was 60%. The current price of the stock is $75. The interest rate on thr margin loan was 10%. Ignoring transaction costs, the investor’s net return on this transaction is closest to:
A) 76.67%
B) 83.33%
C) 115.00%
Answer: A.
My calc: 75-3/30 = 140% (completely wrong!)
Hello,
Given Initial Margin =60%, we know that the remaining 40% of the investment is made on margin.
Initial invest P0 = 50, which is funded accordingly by:
1 year later, P1= 75
At the same time, the margin loan grow interest: 10% of margin loan= 0.1 X $20= $2 ( outflow)
Investor’s stock holding appreciated from $70 to $75
Total return on investment = Stock price Appreciation - Interest Paid / ( Equity Investment i.e. cash invested)
= 75 - 50 - 2/ (30)
=23/30 (= 76.67%)
Hope the above helps.
Ernest
Lol. They are completerly un-wrong. If the initial margin was 60% and the security cost $50 initially, that means, $30 was equity, then $20 was borrowed, interest rate of 10% that is $2. The asset was sold for $75, thus, [75-20(loan)-2(loan interest)] ÷ 30 = 1.7667. -1, equals 76.67%
Guys, that’s fantastic! thanks for clearing that up for me 