Question

On December 30, 2001, you decided to bet on the January effect, a well-known empirical regularity in the stock market. On that day, you bought 400 shares of Microsoft on margin at the price of $149 per share. The initial margin requirement is 55% and the maintenance margin is 30%. The annual cost of the margin loan is 4%. (a) Determine your initial margin requirement. (b) To what price must Microsoft fall for you to receive a margin call

Answer 1

Answer:

Explanation:

a). Total share amount = number of shares bought*price per share = 400 x 149 = 59,600

Initial margin requirement = 55% x 59,600 = 32,780 (This is the equity which you put up. The remainder will be the loan which the brokerage gives you.)

b). Loan amount = Total amount - equity = 59,600 - 32,780 = 26,820

Let the price at which margin call is received be P. Then,

(Market value of shares - loan amount)/market value of shares = maintenance margin

(400P - 26,820) / 400P = 30%

280P = 26,820

P = 95.79

When the share price falls below this price, you will receive a margin call.

Answer 2

Answer:

a) initial margin requirement is 32,780

b) Microsoft fall for you to receive a margin call at 95.79 price

Explanation:

a). Total share amount = number of shares bought*price per share

= 400 x 149

= 59,600

Initial margin requirement = 55% x 59,600

                                           = 32,780

(This is the equity which you put up. The remainder will be the loan which the brokerage gives you.)

b). Loan amount = Total amount - equity = 59,600 - 32,780 = 26,820

Let the price at which margin call is received be P. Then,

(Market value of shares - loan amount)/market value of shares = maintenance margin

(400P - 26,820) / 400P = 30%

280P = 26,820

P = 95.79

When the share price falls below this price, you will receive a margin call.