Question 1

You purchase 400 shares of stock at a price of $20 per share. Using the minimum margin requirement of 70%, your equity would be

Accepted Answer

The answer of You purchase 400 shares of stock at...

Question 2

An investor uses 70% margin to buy stock with a market price of $50. If the price goes to $60, the investor's rate of return is

Accepted Answer

The investor is using 70% margin, which means they are borrowing 30% of the cost of the stock. So if the stock costs $100, they are paying $70 of their own money and borrowing $30.

If the stock goes up to $60, the total value of the stock is now $60 x 1, which represents a 100% gain on the original investment. However, the investor only put in $70 of their own money, so their return is actually 100%/70% = 1.43 times their original investment.

This represents a rate of return of (1.43 - 1) x 100% = 43%. Therefore, the correct answer is C) 29%, because the investor's rate of return is 29% of their initial investment of $70.

Question 3

___ orders are canceled if the broker is unable to fully execute them immediately.

Accepted Answer

Fill-or-kill orders require immediate execution in their entirety, meaning that if the broker cannot fully execute the order, it will be canceled. Good-till-canceled orders remain in effect until they are executed or canceled by the investor, open orders remain valid until the investor cancels them, and discretionary orders give the broker permission to make decisions about trades on the investor's behalf.

Question 4

For a short sale, the Actual Margin is

Accepted Answer

The Actual Margin in a short sale is calculated as the equity divided by the loan.

Question 5

If an investor holds common stocks in street name, he or she

Accepted Answer

Holding common stocks in street name means that the stocks are held by a broker or bank on the investor's behalf. However, the investor still retains ownership of the stocks and is entitled to receive any dividends paid out by the company. Voting rights are also not affected by holding stocks in street name. The investor may not receive an annual report directly from the company, but they can obtain it from their broker or bank. Finally, holding stocks in street name does not impact an investor's ability to open a margin account.

Question 6

A broker buys 500 shares of IBM stock at $80 a share on margin. The initial margin is 50% and the maintenance margin requirement is 30%. To what price may the IBM stock fall before the broker receives a margin call?

Accepted Answer

The broker initially pays 50% of the total cost, which is 500 shares * $80/share * 50% = $20,000. The total value of the stocks is 500 shares * $80 = $40,000. For a margin call to occur, the equity in the account must fall to 30% of the total value of the stocks. Let P be the price at which a margin call occurs. Then, the equation is $20,000 + (500 * P - $40,000) = 0.30 * (500 * P). Solving for P gives $57.14.

Question 7

The minimum maintenance margin for common stocks is set by

Accepted Answer

The minimum maintenance margin for common stocks is set by individual exchanges, such as the New York Stock Exchange (NYSE) or NASDAQ, rather than by the Federal Reserve Board or individual brokerage firms. The maintenance margin is the minimum amount of equity that must be maintained in a margin account, and individual exchanges set their own requirements for this.

Question 8

The margin to purchase Treasury securities is

Accepted Answer

The margin to purchase Treasury securities is typically lower than common stock. This is because Treasury securities are considered less risky and more stable investments.

Question 9

To resolve a margin call, an investor could

Accepted Answer

To resolve a margin call, the best choice is to deposit more cash into the account. This will increase the equity in the account and bring the margin level back up to the required level. Borrowing more money or selling the stock short could further increase the risk and potentially lead to greater losses. Buying more of the security may not provide enough of an increase in equity to meet the margin call.

Question 10

An investor uses 50% margin to invest and the stock price drops by 15%. His rate of return (ignoring interest charges and dividends) would be

Accepted Answer

With 50% margin, the investor's equity is halved. A 15% drop in stock price results in a 30% loss on the equity, leading to a -30% return.

Question 11

An investor uses 50% margin to invest, and the stock price rises by 10%. His rate of return (ignoring interest charges and dividends) would be

Accepted Answer

With 50% margin, the investor is investing half of their own money and borrowing the other half. Therefore, their leverage amplifies the return on their own investment by a factor of 2. If the investment returns 20%, the investor's actual return would be 2 x 20% = 40%. However, since they only invested half of the money, the return on their own investment would be 20%. Therefore, the answer is B (20%).

Question 12

If the initial margin requirement is lowered, the margin investor will

Accepted Answer

Lowering the initial margin requirement means that the margin investor can borrow more money to make investments. This leads to an increase in leverage and therefore increases the potential rate of return, but also increases the volatility of the potential rate of return. Therefore, the correct answer is D. Choice A and B are not directly related to margin requirements and choice C is incorrect as the investor can borrow more dollars with a lower margin requirement.

Question 13

Professionally managed hedge funds

Accepted Answer

Professionally managed hedge funds typically take both short and long positions in various securities and investments, aiming to generate higher returns than traditional investments. They do not receive interest on their short margin, but they are not publicly traded organizations. While hedge funds have had periods of underperformance, they are known for offering the potential for higher returns than the overall market.

Question 14

A broker buys 200 shares of Walmart on margin at $70 per share. The initial margin is 50% and the annual interest on margin loans is 8%. The stock price rises to $90 over the next year. What is the broker's return on the investment?

Accepted Answer

The initial margin is 50%, so the broker would need to put down 50% of the total cost of the shares, which is (200 x $70) = $14,000. This means the broker would borrow the other 50% ($14,000) from the broker's firm.

So, the amount borrowed would be $14,000, and the annual interest rate is 8%, so the annual interest paid by the broker would be:

0.08 x $14,000 = $1,120

After one year, the stock price rises to $90. So, the total value of the shares is now:

200 x $90 = $18,000

The broker's return on investment would be:

($18,000 - $14,000 - $1,120) / $14,000 = 0.491 or 49.1%

Therefore, the broker's return on investment is 49.1%.

Question 15

To be certain that order will be executed in the market, an investor will place a

Accepted Answer

A market order is the best choice for ensuring execution in the market. This order type will execute at the next available price, providing certainty that the order will be filled. Limit orders, stop orders, and stop limit orders can all have execution uncertainty depending on the current market conditions.

Question 16

After purchasing common stock on margin, an investor can calculate his Actual Margin by

Accepted Answer

The Actual Margin is calculated by dividing the equity by the market value of the securities. Equity represents the investor's own money in the investment, while market value is the current value of the securities purchased. This ratio shows the proportion of the investment that is financed by the investor's own funds.

Question 17

An investor's securities held at a brokerage firm are insured for a value of at least

Accepted Answer

An investor's securities held at a brokerage firm are insured for a value of up to $500,000 by the Securities Investor Protection Corporation (SIPC).

Question 18

Short sellers

Accepted Answer

Short sellers are investors who sell shares they do not own in the hope of buying them back at a lower price to make a profit. They believe the security price will drop and have a timeframe to buy back the shares they borrowed (usually with a fee), which is why they are called "short-term" investors. They do not receive the dividend during the short sale, as they are not actual shareholders. Additionally, short selling typically involves a margin requirement, as it involves borrowing shares from a broker.

Question 19

The most a short seller can lose is

Accepted Answer

The potential loss for a short seller is unlimited because there is no theoretical limit to how high a stock's price can rise, and the short seller is obligated to buy back the stock at its current price to close out the position, regardless of how much the price has increased.

Question 20

An investor who has purchased several stocks on margin through one brokerage house has his margin deposit requirements calculated on

Accepted Answer

When an investor purchases several stocks on margin through one brokerage house, his margin deposit requirements are calculated on the aggregate or total present market value of all the stocks, not on the individual stock's original purchase price or present market value. The lowest value stock is also not relevant in determining margin deposit requirements. Therefore, choice A is the best answer.

Quiz 2: Buying and Selling Securities