Question

Question #6: Margin [26 Points] Use the following scenario to answer Parts (a) - (c) You open up a trading account with Merrill Lynch and purchase 800 shares of Southwest Airlines (LUV) at $54.32 per share. Suppose that the initial margin percentage is 60% and that your broker charges you a margin interest rate of 5.0%. (a) What is the amount that you must deposit into your account in order to buy 800 shares of Southwest Airlines on margin? [4 Points] (b) Suppose that you deposited the amount in Part (a) and borrowed the balance to purchase the 800 shares of Southwest. What will be your rate of return if the price of Southwest stock rises to $58.50 by next year and you sell the shares? You may ignore any expected dividend payments. [Hint: Make sure to take into account the margin interest rate in your calculations.] [8 Points] (c) How far would the price of Southwest shares have to fall before you receive a margin call if the maintenance margin is 25%? Round your final answer to two decimal places. [6 Points]

Answer 1

Pa por 1 Solutions dealines & 54.32 (9,6 purchase soo shoece of Southweat initial maegin percentage is 60% + Mangan interest siate. 5.0% = 800 X 54.32 43456 → initial maegin = 60% = 6%00 * 43456 OG X43456 [** 26073,6 Amount borrowed as on malgin Onterest rate = $43456 - 26073.6 ::$ 17382.44 & Q the amount deposit your account ander buy Roo shares on margin $ 26073.6 pouces & South west stock eisce $58.50 purchase soo Total return from selling share os 800 xi (58.50 – 54:32) - 800 *: 2018 ..

pg.not a $ 3344 ::$3544 → interest paid on margins 25%* 1738844 Ti $869.1a Total retuen = Total retuen - inteest paid - $3344 $869.12 Sub, - = $ 2474688 $24746881 > margin Rate of = $ 26073-6 retues = Total retien *100] +$&474.88 X100 =9.49% $ 26073.6 Trate do scetuen $ 26073161 I Maintenance do malgin 25% > maintenance maegin will be triggered when | Cosent market value - Amount borrowed =25/ Curgent market value Sub, the values in formula 8008.- 17382. 800p

• 8000 -17382.2 = 0.25 x 800 p Pg No83 800p -17382.4 = 200 p Goop = 17382.4 19389.le pe 19382. ps $ 98.97 fall shapes $28.97 pouce of South west тара.