Bufn 740 Hw 1 Essays

1644 Words Aug 26th, 2012 7 Pages
Homework 1
DC51 Yifei Wu UID:112583057

4. Although we stated that real assets comprise the true productive capacity of an economy, it is hard to conceive of a modern economy without well-developed financial markets and security types. How would the productive capacity of the U.S. economy be affected if there were no markets in which one could trade financial assets?

Answer a. In a capitalist system, financial markets play a central role in the allocation of capital resources. The best resources always tend to come to the companies with the best prospect. The company’s management will find it easy to issue new shares or borrow funds to finance research and development, build new production facilities, and expand its
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Solution a. Initial margin: 100×50×50%=$2500 b. Assume the margin call price is P.
[(100×50+2500)-100P]/100P=30%
P=$57.69

11. Suppose that Intel currently is selling at $40 per share. You buy 500 shares using $15,000 of your own money, borrowing the remainder of the purchase price from your broker. The rate on the margin loan is 8%.
a. What is the percentage increase in the net worth of your brokerage account if the price of Intel immediately changes to: (i) $44; (ii) $40; (iii) $36? What is the relationship between your percentage return and the percentage change in the price of Intel?
b. If the maintenance margin is 25%, how low can Intel’s price fall before you get a margin call?
c. How would your answer to (b ) change if you had financed the initial purchase with only $10,000 of your own money?
d. What is the rate of return on your margined position (assuming again that you invest $15,000 of your own money) if Intel is selling after 1 year at: (i) $44; (ii) $40; (iii) $36? What is the relationship between your percentage return and the percentage change in the price of Intel?
Assume that Intel pays no dividends.
e. Continue to assume that a year has passed. How low can Intel’s price fall before you get a margin call?

Solution: a. In this case, the percentage increase in the net worth equals to the rate of return.
Rate of return=(ending equity-beginning

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