Question

3. You have $100 to invest. The price of XYZ stock is $100. You sell short one share of XYZ and then invest all available funds (your initial $100 and any short-sale proceeds) in one-year zero-coupon bonds with 5% yield to maturity. One year later, the price of XYZ is $90. There are no dividends. What is the HPR on your initial $100?

Answer 1

Answer:

HPR = holding period Return is 20%

Explanation:

• Given original Investment = $100

• Short sale proceeds for 1 share = $100

• Investment made of $100 + short sale proceeds of $100 at 5% YTM.

• So Maturity Value = Investment x (1+YTM)^number of years  

• = 200 x (1 + 0.05)^1 = 210  

 

• Therefore, In order to cover Short sale of 1 share, we will have to buy 1 share at a closing value of $90  

• As such, holding period Return = (Investment proceeds from ZCB - Buying price of stock - Investment amount) / Investment Amount  

• = (210 - 90 - 100) / 100 = 0.2 or 20%  

 

• Hence, HPR = holding period Return is 20%