You are bullish on Telecom stock. The current market price is $48 per share, and

Question

You are bullish on Telecom stock. The current market price is $48 per share, and you have $9,600 of your own to invest. You borrow an additional $9,600 from your broker at an interest rate of 3.0% per year and invest $19,200 in the stock.

a. What will be your rate of return if the price of Telecom stock goes up by 5% during the next year? (Ignore the expected dividend.) (Round your answer to 2 decimal places.)

Rate of return %

b. How far does the price of Telecom stock have to fall for you to get a margin call if the maintenance margin is 30%? Assume the price fall happens immediately. (Round your answer to 2 decimal places.)

Stock price falls below $

Explanation / Answer

a) Price realised at the end of the year    = 19200 *1.05 = 20,160

   Less: debt servicing                            = 9600 * 1.03 =   9,888

   Balance                                                                  = 10,272

   Rate of Return        = (10,272/9600) * 1 = 0.07 = 7%

b) Maintenence Margin = 19200*0.3 = 5760

    Maximum fall without getting a call for margin = 5760/400 = 14.4 $ per share = 14.4/48 = 30%

    So, the prices have to fall by more than 30%, to get a margin call.

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