Old Economy Traders opened an account to short sell 1 000 shares o Intemet Dream

Question

Old Economy Traders opened an account to short sell 1 000 shares o Intemet Dreams at $95 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 $95 to $101.00, and the stock has paid a dividend of $15.00 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 No 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

Explanation / Answer

a). Initial Margin = $95 x 1,000 x 0.5 = $47,500

Dividend Paid = $15 x $1,000 = $15,000

As a result of the $6.00 increase in the stock price,

Old Economy Traders loses = $6.00 ×1,000 shares = $6,000.

Remaining Margin = $47,500 - $15,000 - $6,000 = $26,500

b1). Margin on short position = Equity / Value of Shares Owed

= [$26,500 / $101] / 1,000 = 0.2624, or 26.24%

b2). Because the percentage margin falls below the maintenance level of 30%, there will be a margin call.

c). Rate of Return = [Ending Equity - Initial Equity] / Initial Equity

= [$26,500 - $47,500] / $47,500 = -$21,000 / $47,500 = -0.4421, or -44.21%

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