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Old Economy Traders opened an account to short-sell 1,000 shares of Internet Dreams at $80 per share

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Business

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Homework

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Problem 3-16
Old Economy Traders opened an account to short-sell 1,000 shares of
Internet Dreams at $80 per share. The initial margin requirement was 50%.
(The margin account pays no interest.) A year later, the price of Internet
Dreams has risen from $80 to $93.00, and the stock has paid a dividend of
$12.00 per share.
a. What is the remaining margin in the account?
Remaining
margin
$
b-
1.
What is the margin on the short position? (Round your answer to 2
decimal places.)
Short margin
%
b-
2.
If the maintenance margin requirement is 30%, will Old Economy
receive a margin call?
Yes
15,000
16.13

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c.
What is the rate of return on the investment? (Negative value should be
indicated by a minus sign. Round your answer to 2 decimal places.)
Rate of
return
%
rev: 09_23_2013_QC_36097
Explanation:
a.
The initial margin was: $80 × 1,000 × 0.50 = $40,000.
As a result of the $13.00 increase in the stock price, Old Economy Traders
loses: $13.00 × 1,000 shares = $13,000.
Moreover, Old Economy Traders must pay the dividend of $2 per share to
the lender of the shares: $12.00 × 1,000 shares = $12,000.
The remaining margin in the investors account therefore decreases to:
$40,000 – $13,000 – $12,000 = $15,000.
b.
Margin on short position =
Equity
Value of shares owed
=
$15,000/$93.00 = .1613 =
16.13%
1,000 shares
Because the percentage margin falls below the maintenance level of 30%,
there will be a margin call.
c.
-62.50

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The rate of return =
Ending equity – Initial equity
Initial equity
=
$15,000 –
$40,000 = –0.6250 = –62.50%
$40,000

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