Fin 550 week 2 homework

FIN550 WEEK 2 HOMEWORK

Chapter 4: Problems 4, 5, 6, and 7

4. You decide to sell short 100 shares of Charlotte Horse Farms when it is selling at its yearly

high of $56. Your broker tells you that your margin requirement is 45 percent and that the

commission on the purchase is $155. While you are short the stock, Charlotte pays a $2.50

per share dividend. At the end of one year, you buy 100 shares of Charlotte at $45 to close

out your position and are charged a commission of $145 and 8 percent interest on the

money borrowed. What is your rate of return on the investment?

120 Part 1: The Investment Background

Property of Cengage Learning

5. You own 200 shares of Shamrock Enterprises that you bought at $25 a share. The stock is

now selling for $45 a share.

a. You put in a stop loss order at $40. Discuss your reasoning for this action.

b. If the stock eventually declines in price to $30 a share, what would be your rate of return

with and without the stop loss order?

6. Two years ago, you bought 300 shares of Kayleigh Milk Co. for $30 a share with a margin

of 60 percent. Currently, the Kayleigh stock is selling for $45 a share. Assuming no dividends

and ignoring commissions, compute (a) the annualized rate of return on this investment

if you had paid cash, and (b) your rate of return with the margin purchase.

7. The stock of the Madison Travel Co. is selling for $28 a share. You put in a limit buy order

at $24 for one month. During the month the stock price declines to $20, then jumps

to $36. Ignoring commissions, what would have been your rate of return on this investment?

What would be your rate of return if you had put in a market order? What if

your limit order was at $18?

•Chapter 6: Problems 1, 2, 3, and 4

1. Compute the abnormal rates of return for the following stocks during period t (ignore differential

systematic risk):        Stock                Rit                 Rmt

                                         B                  11.5%            4.0%

                                          F                  10.0               8.5

                                          T                  14.0               9.6

                                          C                  12.0              15.3

                                          E                   15.9             12.4

Rit = return for stock i during period t

Rmt = return for the aggregate market during period t

2. Compute the abnormal rates of return for the five stocks in Problem 1 assuming the following

systematic risk measures (betas):

                                                          Stock                                    βi

                                                              B                                       0.95

                                                              F                                       1.25

                                                             T                                         1.45

                                                             C                                         0.70

                                                             E                                         −0.30

3. Compare the abnormal returns in Problems 1 and 2 and discuss the reason for the difference

in each case.

Chapter 6: Efficient Capital Markets 179

4. Look up the daily trading volume for the following stocks during a recent five-day period:

• Merck

• Caterpillar

• Intel

• McDonald’s

• General Electric

Randomly select five stocks from the NYSE, and examine their daily trading volume for

the same five days.

a. What are the average volumes for the two samples?

b. Would you expect this difference to have an impact on the efficiency of the markets for

the two samples? Why or why not?