BABA.COM is trading at $20 per share. Jeremy thinks BABA.COM is undervalued. Thus, he opens a brokerage account at Merrill and purchases 100 shares of BABA.COM on margin with the initial margin requirement (IMR) at 50% and the maintenance margin requirement (MMR) at 30%. He borrows the maximum amount from Merrill to purchase 100 shares of BABA.COM and the interest rate on the loan is 5% per annum.

1. Compute the rate of return to his investment if the price falls to $18 one-year later. (5 marks)
2. How low can the price of the stock fall before he gets a margin call? Assume the price drop happens immediately after she purchases the stock? (5 marks)

In contrast, Brian thinks BABA.COM is overvalued. Thus, he opens a brokerage account at Merrill and short sells 100 shares of BABA.COM with the initial margin requirement (IMR) at 50% and the maintenance margin requirement (MMR) at 10%. Suppose the interest rate on the stock loan (in terms of dollar amount) is 10% per annum.

3.Compute the rate of return to his investment if the price increases to $25 one-year later (5 marks)

4.How high can the price of the stock rise before he gets a margin call? Assume the price rise happens immediately after he sells short the stock? (5 marks)

 

Answer rating: 100% (QA)

Lets break down each scenario step by step For Jeremys Long Position 1 Purchase price per share 20 2 Number of shares purchased 100 3 Initial Margin R... View the full answer