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Name CHAPTER 4--ORGANIZATION AND FUNCTIONING OF SECURITIES MARKETS

Description
Instructions Modify

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Question A market is a means through which buyers and sellers are brought together to aid in the transfer of goods and/or services.
Answer True
False

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Question It is required by law that a stock market must have a physical location.
Answer True
False

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Question If transaction prices are volatile, but long-term prices are stable, this is referred to as price continuity.
Answer True
False

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Question A continuous market that has price continuity requires depth of buyers and sellers.
Answer True
False

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Question A market where prices adjust rapidly to new information is considered to be internally efficient.
Answer True
False

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Question Informational efficiency is where the cost of acquiring information is very cheap.
Answer True
False

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Question The primary market is where issues are traded between current and potential owners.
Answer True
False

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Question Negotiation, competitive bids, and best efforts are three forms of underwriting arrangements.
Answer True
False

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Question A corporation wishing to raise funds will normally want the investment banker to use a "best efforts" arrangement rather than a negotiated
basis.
Answer True
False

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Question Rule 415, shelf registration, allows large firms to register ten years worth of financing needs all at one time.
Answer True
False

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Question Only the stocks of large companies are traded in the primary market.
Answer True
False

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Question A good secondary market is important to the efficiency of the primary market.
Answer True
False

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Question The NYSE has dominated the other U.S. exchanges in trading volume.
Answer True
False

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Question In recent years there has been a trend toward the consolidation of existing exchanges in developed markets, such as London, Frankfurt
and Paris.
Answer True
False

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Question Listed stocks traded on the over-the-counter market are being traded in the third market.
Answer True
False

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Question The over-the-counter market includes all stocks not listed on one of the major exchanges but constitutes a lesser of a dollar value than the
New York and American Exchanges combined.
Answer True
False

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Question The over-the-counter market lists more stocks than the New York Stock Exchange and the American Stock Exchange combined.
Answer True
False

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Question The value of the stocks traded in the over-the-counter market is greater than the combined values of the stocks traded on the New York
Stock Exchange and the American Stock Exchange combined.
Answer True
False

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Question The Nasdaq National Market System is an order driven market.

Answer True
False

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Question Margin transaction involves borrowing part of the cost of an investment.

Answer True
False

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Question Short selling is practiced when an investor borrows part of the cost of the investment, e.g., they are "short" on cash.
Answer True
False

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Question The NYSE is a dealer market.

Answer True
False

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Question A block house is a brokerage firm that buys and sells blocks of stock for institutions.
Answer True
False

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Question Super DOT is an electronic order-routing system through which member firms can transmit market and limit orders directly to the posts
where the securities are traded.
Answer True
False

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Question Global trading has eroded the NYSE's share of the market for NYSE-listed stocks.
Answer True
False

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Question Rule 415 allows corporations to place securities privately with large, sophisticated institutional investors without extensive registration
documents.
Answer True
False

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Question Secondary equity issues are new shares offered by firms that already have stock outstanding.
Answer True
False

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Question In a pure auction market buyers and sellers submit bid-and-ask prices for a given stock to a central location.
Answer True
False

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Question In a dealer market trading system shares of stock are sold to the investor with the highest bid price and bought from the seller with the
lowest offering price.
Answer True
False

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Question Specialists provide added liquidity in the Nasdaq market.

Answer True
False

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Question Initial public offerings (IPOs) involve selling of bonds to the public for the first time.
Answer True
False

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Question Rule 144A reduced registration documentation requirements for placing securities privately with large institutional investors.
Answer True
False

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Question A pure auction market is also referred to as a quote-driven market.

Answer True
False

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Question Which of the following statements about a market is true?

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Answer It is not necessary for the market to have a physical location.

The market does not necessarily own the goods or services involved.
A market can deal in any variety of goods and services.
All of the above
None of the above

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Question Which of the following is not a characteristic of a good market for goods and services?
Answer Timely and accurate information
Liquidity
Low transaction costs
External efficiency
All of the above are characteristics of a good market.

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Question Which of the following is not a secondary equity market?

Answer Treasury market
National exchanges
Regional exchanges
Over-the-counter market
All of the above are secondary equity markets.

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Question Regional exchanges exist because

Answer They provide trading facilities for local companies
They allow local brokers to trade dual listed stocks
They allow for trading of local bonds
a and b.
b and c.

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Question An order that specifies the highest buy or lowest sell price is a
Answer Limit order.
Short sale.
Market order.
Margin call.
Stop loss.

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Question When an investor borrows part of the investment cost it is known as

Answer A short sale.
A fill or kill order.
A margin transaction.
A limit order.
Going long.

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Question Which of the following is not a function of the specialist?

Answer Assists the Federal Reserve in controlling the money supply
Acts as a broker who handles the limit orders or special orders placed with member brokers
Buys and sells securities in order to stabilize the market
Acts as a dealer in assigned stocks to maintain a fair and orderly market
All of the above are functions of a specialist

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Question The member of the New York Stock Exchange who acts as a dealer on assigned stocks is known as a
Answer Registered trader.
Commission broker.
Registered broker.
Floor broker.
Specialist.

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Question Floor brokers on the New York Stock Exchange

Answer Use their membership to buy and sell for their own account.
Are employees of a member firm and buy and sell for customers of the firm.
Handle limit and other orders placed by other brokers.
Act as brokers for other members.
Maintain a fair and orderly market.

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Question A block trade is one which involves a minimum of

Answer 1,000 shares.
5,000 shares.
10,000 shares.
100,000 shares.
1,000,000 shares.

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Question In a call market, trading for individual stocks

Answer Occurs anytime the market is open.
Takes place at specific times.
Takes place at the open and close of the trading day.
All of the above.
None of the above.

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Question A pure auction market is one in which

Answer Dealers provide liquidity by buying and selling shares of stock for themselves.
Dealers compete against each other to provide the highest bid and lowest asking prices.
Buyers submit bid prices to sellers.
Sellers submit ask prices to buyers.
Buyers and sellers submit bid and ask prices to a central location to be matched.

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Question In a negotiated bid, the underwriter carries out the following service(s)
Answer Origination, risk-bearing, and distribution.
Origination and risk-bearing.
Risk-bearing and distribution.
Origination and distribution.
Risk-bearing and distribution.

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Question Municipal bonds are sold using the following method or methods:
Answer Competitive bid
Negotiated sale
Private placement
All of the above
None of the above

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Question When a market is externally efficient, it means that

Answer Timely and accurate information is available
The market is liquid
Transaction costs are low
Prices adjust rapidly to new information
The number of buyers and sellers are the same

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Question When a market is internally efficient, it means that

Answer The market has price continuity.
The market has minimal transactions costs
The market has good depth
The market has more buyers than sellers
The market has more sellers than buyers

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Question Trading in the secondary markets for U.S. Government and municipal bonds
Answer Takes place through a network of primary dealers
Takes place over the counter by dealers who buy and sell on their own account
Takes place on the NYSE bond annex
All of the above
None of the above

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Question Which of the following is an underwriting function?

Answer Origination
Risk-bearing
Distribution
Choices b and c
All of the above

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Question With a best effort offering, the investment banker performs all of the following roles except:
Answer determines the fee paid to themselves for handling the issue.
manages the selling group for the new issue.
evaluates market conditions and determines the characteristics of the security.
guarantees the selling price for the entire issue to the firm issuing the securities.
All of the above are true.

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Question The basic distinction between a primary and a secondary market is

Answer proceeds from sales in the primary market go to the current owner of a security; proceeds in secondary market go to the original
owner.
primary markets involve direct dealings within regional exchanges.
only new securities are sold in the primary market; only outstanding securities are bought and sold in the secondary market.
primary markets deal exclusively in bonds; secondary markets deal primarily in common stock.
None of the above.

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Question Trading in the secondary markets for Corporate bonds

Answer Takes place through a network of primary dealers
Takes place over the counter by dealers who buy and sell on their own account
Takes place on the NYSE bond annex
All of the above
None of the above

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Question Secondary markets are important because

Answer The prevailing market price of securities is determined in the secondary market
It has an impact on price stability
It has an impact on price continuity
All of the above
None of the above

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Question Which of the following is not a characteristic of shelf registrations? Shelf registrations:
Answer Were introduced by Rule 415.
Allow large firms to register security issues and sell them piecemeal during the following six years.
Provide flexibility and reduce registration fees and expenses.
Are typically used for the sale of straight debentures rather than common stock or convertible issues.
All of the above are characteristics of shelf registrations.

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Question All of the following are advantages of secondary markets except

Answer Provide liquidity to individuals holding the securities.
Support the primary market by reducing the required rate of return due to the lower liquidity risk for securities.
Provide price discovery for corporations selling seasoned securities.
Impact market efficiency and price volatility.
All of the above are advantages of secondary markets.

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Question Which of the following is not a major category of membership in stock exchanges?
Answer Specialist
Commission broker
Floor broker
Financial analyst
Registered trader

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Question Investors can leverage their stock transactions with the use of
Answer Margin orders
Stop loss orders
Limit orders
Market orders
Specialists

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Question All of the following are characteristics of a dealer market except:

Answer Also referred to as a quote-driven market
NASDAQ market is a dealer market
Individual dealers buy and sell shares for themselves
Centralized trading location
All of the above are characteristics of a dealer market

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Question The US secondary market with the largest number of issues traded is the:
Answer AMEX
NASDAQ
NYSE
LSE
Both a and c

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Question A 1994 study concluded dealers were colluding to maintain wide bid/ask spreads by concentrating market quotes in quarters instead of
eighths. This study eventually led to new order handling rules that required quotes to be available to the public through:
Answer NASDAQ market
Electronic communications networks (ECN)
High frequency trading (HFT)
Algorithmic trading (AT)
Intermarket trading system (ITS)

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Question Exhibit 4.1

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)

Jackie has a margin account with a balance of $150,000. The initial margin deposit is 60 percent and Turtle Industries is currently selling at $50 per
share.

Refer to Exhibit 4.1. How many shares of Turtle can Jackie purchase?
Answer 5,000
3,000
1,800
1,200
None of the above
Correct Feedback Letting X = total investment, Jackie's share will represent 60 percent.
Thus .60X = $150,000 and X = $150,000 ¸ .60 = $250,000.
At $50 per share, she can purchase ($250,000 ¸ $50) = 5000 shares.
Incorrect Feedback Letting X = total investment, Jackie's share will represent 60 percent.
Thus .60X = $150,000 and X = $150,000 ¸ .60 = $250,000.
At $50 per share, she can purchase ($250,000 ¸ $50) = 5000 shares.
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Question Exhibit 4.1

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)

Jackie has a margin account with a balance of $150,000. The initial margin deposit is 60 percent and Turtle Industries is currently selling at $50 per
share.

Refer to Exhibit 4.1. What is Jackie's profit/loss if Turtle's price after one year is $40?
Answer $50,000
-$50,000
$100,000
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-$100,000
None of the above
Correct Feedback Profit = (40 - 50)(5000) = -$50,000
Incorrect Feedback Profit = (40 - 50)(5000) = -$50,000
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Question Exhibit 4.1

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)

Jackie has a margin account with a balance of $150,000. The initial margin deposit is 60 percent and Turtle Industries is currently selling at $50 per
share.

Refer to Exhibit 4.1. If the maintenance margin is 25 percent, to what price can Turtle Industries fall before Jackie receives a margin call?
Answer $14.56
$23.17
$32.42
$26.67
None of the above
Correct Feedback Margin = (Market Value - Debit Balance) ¸Market Value, where
Debit Balance = initial loan value = ($250,000 - $150,000) = $100,000
Market Value = Price ´ Number of Shares = 5000P

Thus 0.30 = (5000P - $100,000) ¸ (5000P)

P = $26.67
Incorrect Feedback Margin = (Market Value - Debit Balance) ¸Market Value, where
Debit Balance = initial loan value = ($250,000 - $150,000) = $100,000
Market Value = Price ´ Number of Shares = 5000P

Thus 0.30 = (5000P - $100,000) ¸ (5000P)

P = $26.67
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Question Exhibit 4.2

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)

Heidi Talbott has a margin account with a balance of $50,000. The initial margin deposit is 50 percent, and RC Industries is currently selling at $50
per share.

Refer to Exhibit 4.2. How many shares of RC can Heidi buy?

Answer 2,500
2,000
1,000
500
None of the above
Correct Feedback Letting P = price and Q = quantity of shares,
Heidi's share of the investment will = 50% of PQ.

Thus 0.50PQ = $50,000 and PQ = $50,000/0.50 = $100,000

\ At $50 per share, she can purchase ($100,000 ¸ $50) = 2000 shares.
Incorrect Feedback Letting P = price and Q = quantity of shares,
Heidi's share of the investment will = 50% of PQ.

Thus 0.50PQ = $50,000 and PQ = $50,000/0.50 = $100,000

\ At $50 per share, she can purchase ($100,000 ¸ $50) = 2000 shares.
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Question Exhibit 4.2

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)

Heidi Talbott has a margin account with a balance of $50,000. The initial margin deposit is 50 percent, and RC Industries is currently selling at $50
per share.

Refer to Exhibit 4.2. What is Heidi's profit if RC's price rises to $80?
Answer $55,000
$50,000
$60,000
$68,270
$28,570
Correct Feedback Profit = (80 - 50)(2000) = $60,000
Incorrect Feedback Profit = (80 - 50)(2000) = $60,000
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Question Exhibit 4.2

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)

Heidi Talbott has a margin account with a balance of $50,000. The initial margin deposit is 50 percent, and RC Industries is currently selling at $50
per share.

Refer to Exhibit 4.2. If the maintenance margin is 25 percent, to what price can RC Industries stock price fall before Heidi receives a margin call?
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Answer $21.75
$23.33
$32.00
$33.33
None of the above
Correct Feedback Margin = (Market Value - Debit Balance) ¸ Market Value, where
Debit Balance = initial loan value = ($100,000 - $50,000) = $50,000
Market Value = Price ´ Number of Shares = 2000P

Thus 0.25 = (2000P - $60,000) ¸ (2000P)

P = $33.33
Incorrect Feedback Margin = (Market Value - Debit Balance) ¸ Market Value, where
Debit Balance = initial loan value = ($100,000 - $50,000) = $50,000
Market Value = Price ´ Number of Shares = 2000P

Thus 0.25 = (2000P - $60,000) ¸ (2000P)

P = $33.33
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Question Exhibit 4.3

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)

Kathy Smith has a margin account with a balance of $60,000. Initial margin requirements are 80 percent, and Jackson Industries is currently selling
at $40 per share.

Refer to Exhibit 4.3. How many shares of Jackson can Kathy buy?
Answer 1875
1500
1750
1200
None of the above
Correct Feedback Letting P = price and Q = quantity of shares,
Kathy's share will represent 80% of PQ.

Thus 0.80X = $60,000 and X = $60,000 ¸ .80 = $75,000.

\ At $40 per share, she can purchase ($75,000 ¸ $40) = 1875 shares.
Incorrect Feedback Letting P = price and Q = quantity of shares,
Kathy's share will represent 80% of PQ.

Thus 0.80X = $60,000 and X = $60,000 ¸ .80 = $75,000.

\ At $40 per share, she can purchase ($75,000 ¸ $40) = 1875 shares.
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Question Exhibit 4.3

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)

Kathy Smith has a margin account with a balance of $60,000. Initial margin requirements are 80 percent, and Jackson Industries is currently selling
at $40 per share.

Refer to Exhibit 4.3. What is Kathy's profit if Jackson's price rises to $50?
Answer $18,750
$15,750
$55,000
$37,750
$28,570
Correct Feedback Profit = (50 - 40)(1875) = $18,750
Incorrect Feedback Profit = (50 - 40)(1875) = $18,750
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Question Exhibit 4.3

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)

Kathy Smith has a margin account with a balance of $60,000. Initial margin requirements are 80 percent, and Jackson Industries is currently selling
at $40 per share.

Refer to Exhibit 4.3. If the maintenance margin is 25 percent, to what price can Jackson Industries fall before Kathy receives a margin call?
Answer $21.75
$23.00
$10.67
$15.93
None of the above
Correct Feedback Margin = (Market Value - Debit Balance) ¸ Market Value, where
Debit Balance = initial loan value = ($75,000 - $60,000) = $15,000
Market Value = Price ´ Number of Shares = 1875P

Thus 0.25 = (1875P - $15,000) ¸ 1875P

P = $10.67
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Incorrect Feedback Margin = (Market Value - Debit Balance) ¸ Market Value, where
Debit Balance = initial loan value = ($75,000 - $60,000) = $15,000
Market Value = Price ´ Number of Shares = 1875P

Thus 0.25 = (1875P - $15,000) ¸ 1875P

P = $10.67
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Question Exhibit 4.4

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)

You decide to sell 100 shares of Davis Industries short when it is selling at its yearly high of $35. Your broker tells you that your margin requirement
is 55 percent and that the commission on the sale is $15. While you are short, Davis pays a $0.75 per share dividend. At the end of one year you
buy your Davis shares (cover your short sale) at $30 and are charged a commission of $15 and a 6 percent interest rate.

Refer to Exhibit 4.4. What is your dollar return on the investment?

Answer $130.50
$300.50
$100.00
$1,773.75
$3,500.00
Correct Feedback Profit = $3500 - $3000 - $75 - $15 - $15 - (1 - 0.55)(3500)(0.06) = $300.50
Incorrect Feedback Profit = $3500 - $3000 - $75 - $15 - $15 - (1 - 0.55)(3500)(0.06) = $300.50
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Question Exhibit 4.4

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)

You decide to sell 100 shares of Davis Industries short when it is selling at its yearly high of $35. Your broker tells you that your margin requirement
is 55 percent and that the commission on the sale is $15. While you are short, Davis pays a $0.75 per share dividend. At the end of one year you
buy your Davis shares (cover your short sale) at $30 and are charged a commission of $15 and a 6 percent interest rate.

Refer to Exhibit 4.4. What is your rate of return on the investment?

Answer 10.48%
12.87%
13.98%
15.49%
18.87%
Correct Feedback Rate of Return = Profit ¸ Initial Investment
Initial investment = (.55 ´ $3500) + $15 = $1,940

\ Rate of Return = $300.50/$1,940 = 15.49%

Incorrect Feedback Rate of Return = Profit ¸ Initial Investment
Initial investment = (.55 ´ $3500) + $15 = $1,940

\ Rate of Return = $300.50/$1,940 = 15.49%

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Question Exhibit 4.5

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)

You decide to sell 100 shares of Topgun Enterprises Inc. short when it is selling at its yearly high of $42.25. Your broker tells you that your margin
requirement is 60 percent and that the commission on the sale is $20. While you are short, Topgun pays a $0.85 per share dividend. At the end of
one year you buy your Topgun shares (cover your short sale) at $44 and are charged a commission of $20 and a 5 percent interest rate.

Refer to Exhibit 4.5. What is your dollar return on the investment?

Answer $384.50
$432.88
-$432.88
-$384.50
-$950.55
Correct Feedback Profit = $4225 - $4400 - $85 - $20 - $20 - (1 - 0.60)(4225)(0.05) = -$384.50
Incorrect Feedback Profit = $4225 - $4400 - $85 - $20 - $20 - (1 - 0.60)(4225)(0.05) = -$384.50
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Question Exhibit 4.5

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)

You decide to sell 100 shares of Topgun Enterprises Inc. short when it is selling at its yearly high of $42.25. Your broker tells you that your margin
requirement is 60 percent and that the commission on the sale is $20. While you are short, Topgun pays a $0.85 per share dividend. At the end of
one year you buy your Topgun shares (cover your short sale) at $44 and are charged a commission of $20 and a 5 percent interest rate.

Refer to Exhibit 4.5. What is your rate of return on the investment?

Answer 10.48%
12.87%
-13.98%
-24.49%
-15.05%
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Correct Feedback Rate of Return = Profit ¸ Initial investment

Initial investment = (0.60 ´ $4225) + 20 = $2,555

\ Rate of Return = -$384.50/$2,555.00 = -15.05%

Incorrect Feedback Rate of Return = Profit ¸ Initial investment
Initial investment = (0.60 ´ $4225) + 20 = $2,555

\ Rate of Return = -$384.50/$2,555.00 = -15.05%

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Question Suppose you buy a round lot of DG Solutions stock on 60% margin when it is selling at $55 a share. The broker charges a 10 percent
annual interest rate and commissions are 3 percent of the total stock value on both the purchase and the sale. If at year end you receive a $1.10 per
share dividend and sell the stock for 55 5/8, what is your rate of return on the investment?
Answer -10.38%
-12.84%
-10.95%
21.84%
28.38%
Correct Feedback Rate of Return = Profit ¸ Initial investment

Profit = Total Return - Initial Stock Value - Transaction Costs - Interest

Total Return = Ending Market Value + Dividend Value
= $5,562.50 + $110.00 = $5,672.50
Initial Stock Value = 100($55) = $5,500.00
Transaction Costs = (0.03)(5,500) + (0.03)(5,562.50) = $331.86
Interest = (0.10)(0.40)($5,500) = $220.00

\ Profit = $5,672.50 - $5,500.00 - $331.86 - $220.00 = -$379.36

Initial investment = Margin deposit + Commission

= (0.60)($5,500.00) + (0.03)($5,500.00) = $3,465

\Rate of Return = -$379.36/$3,465 = -.10948 = -10.95%

Incorrect Feedback Rate of Return = Profit ¸ Initial investment

Profit = Total Return - Initial Stock Value - Transaction Costs - Interest

Total Return = Ending Market Value + Dividend Value
= $5,562.50 + $110.00 = $5,672.50
Initial Stock Value = 100($55) = $5,500.00
Transaction Costs = (0.03)(5,500) + (0.03)(5,562.50) = $331.86
Interest = (0.10)(0.40)($5,500) = $220.00

\ Profit = $5,672.50 - $5,500.00 - $331.86 - $220.00 = -$379.36

Initial investment = Margin deposit + Commission

= (0.60)($5,500.00) + (0.03)($5,500.00) = $3,465

\Rate of Return = -$379.36/$3,465 = -.10948 = -10.95%

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Question Suppose you buy a round lot of HS Inc. stock on 55% margin when it is selling at $40 a share. The broker charges a 10 percent annual
interest rate and commissions are 4 percent of the total stock value on both the purchase and the sale. If at year end you receive a $0.90 per share
dividend and sell the stock for 35 5/8, what is your rate of return on the investment?
Answer -35.17%
-21.84%
14.74%
21.84%
35.17%
Correct Feedback Rate of Return = Profit ¸ Initial investment

Profit = Total Return - Initial Stock Value - Transaction Costs - Interest

Total Return = Ending Market Value + Dividend Value
= $3562.50 + $90= $3652.50
Initial Stock Value = 100($40) = $4000
Transaction Costs = (0.04)(4000) + (0.04)(3562.50) = $302.50
Interest = (0.10)(0.45)($4000) = $180.00

\Profit = $3652.50 - $4000 - $302.50 - $180.00 = -$830.00

Initial investment = Margin deposit + Commission

= (0.55)($4,000) + (0.04)($4,000) = $2,360

\ Rate of Return = -$830.00/$2360 = -0.3517 = -35.17%

Incorrect Feedback Rate of Return = Profit ¸ Initial investment

Profit = Total Return - Initial Stock Value - Transaction Costs - Interest

Total Return = Ending Market Value + Dividend Value
= $3562.50 + $90= $3652.50
Initial Stock Value = 100($40) = $4000
Transaction Costs = (0.04)(4000) + (0.04)(3562.50) = $302.50
Interest = (0.10)(0.45)($4000) = $180.00

\Profit = $3652.50 - $4000 - $302.50 - $180.00 = -$830.00

Initial investment = Margin deposit + Commission

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= (0.55)($4,000) + (0.04)($4,000) = $2,360

\ Rate of Return = -$830.00/$2360 = -0.3517 = -35.17%

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Question Suppose you buy a round lot of Altman Industries stock on 50% margin when it is selling at $35 a share. The broker charges a 10 percent
annual interest rate and commissions are 5 percent of the total stock value on both the purchase and the sale. If at year end you receive a $1.00 per
share dividend and sell the stock for $42.63, what is your rate of return on the investment?
Answer 15.58%
11.84%
14.74%
21.84%
28.38%
Correct Feedback Rate of Return = Profit ¸ Initial Investment

Profit = Total Return - Initial Stock Value - Transaction Costs - Interest

Total Return = Ending Market Value + Dividend
= $4263 + $100 = $4363
Initial Stock Value = 35(100) = $3,500.00
Transaction Costs = .05 ´ 3,500 + (0.05)(4,263) = $388.15
Interest = (0.10)(0.50)($3,500) = $175.00
\ Profit = $4,363 - $3,500 - $175.00 - $388.15 = $299.85

Initial investment = Margin deposit + Initial investment

= .50 ´ $3,500 + .05 ´ $3,500 = $1,925

\ Rate of Return = $299.85/$1,925 = 15.58%

Incorrect Feedback Rate of Return = Profit ¸ Initial Investment

Profit = Total Return - Initial Stock Value - Transaction Costs - Interest

Total Return = Ending Market Value + Dividend
= $4263 + $100 = $4363
Initial Stock Value = 35(100) = $3,500.00
Transaction Costs = .05 ´ 3,500 + (0.05)(4,263) = $388.15
Interest = (0.10)(0.50)($3,500) = $175.00
\ Profit = $4,363 - $3,500 - $175.00 - $388.15 = $299.85

Initial investment = Margin deposit + Initial investment

= .50 ´ $3,500 + .05 ´ $3,500 = $1,925

\ Rate of Return = $299.85/$1,925 = 15.58%

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Question Exhibit 4.6

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)

You decide to sell short 200 shares of XCorp stock at a price of $75. Your margin deposit is 65 percent. Commission on the sale is 1.25%. While you
are short, the stock pays a $1.75 per share dividend. Interest on margin debt is 5.25% per year.

Refer to Exhibit 4.6. At the end of one year you close out your short position by purchasing share of XCorp at $45 per share. The commission is
1.25%. What is your rate of return on the investment?
Answer -55.92%
10.31%
51.06%
23.1%
-33.05%
Correct Feedback Rate of return =
[75 - 45 - 0.9375 - 0.5625 - 1.75 - (1 - .65)(75)(.0525)]/[(.65)(75) + 0.9375] = 51.06%
Incorrect Feedback Rate of return =
[75 - 45 - 0.9375 - 0.5625 - 1.75 - (1 - .65)(75)(.0525)]/[(.65)(75) + 0.9375] = 51.06%
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Question Exhibit 4.6

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)

You decide to sell short 200 shares of XCorp stock at a price of $75. Your margin deposit is 65 percent. Commission on the sale is 1.25%. While you
are short, the stock pays a $1.75 per share dividend. Interest on margin debt is 5.25% per year.

Refer to Exhibit 4.6. Suppose at the end of one year XCorp is selling at $90 per share and you cover your short position at this price. What is your
rate of return on the investment? (Assume a 1.25% commission on the purchase.)
Answer -40.64%
-25.53%
5.21%
72.7%
-71.2%
Correct Feedback Rate of return =
[75 - 90 - 0.9375 - 1.125 - 1.75 - (1 - .65)(75)(.0525)]/[(.65)(75) + 0.9375] = -40.64%
Incorrect Feedback Rate of return =
[75 - 90 - 0.9375 - 1.125 - 1.75 - (1 - .65)(75)(.0525)]/[(.65)(75) + 0.9375] = -40.64%
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Question Exhibit 4.7

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)

Shares of RossCorp stock are selling for $45 per share. Brokerage commissions are 2% for purchases and 2% for sales. The interest rate on margin
debt is 6.25% per year. The maintenance margin is 30%.

Refer to Exhibit 4.7. At the end of one year shares of RossCorp stock are selling for $55 per share and the company paid dividends of $0.85 per
share. Assuming that you paid the full cost of the purchase, what is your rate of return if you sell RossCorp stock?
Answer 18.08%
23.51%
22.32%
14.96%
19.28%
Correct Feedback Rate of return = [55 - 45 + 0.85 - 1.10 - 0.90]/[45 + 0.90] = 19.28%
Incorrect Feedback Rate of return = [55 - 45 + 0.85 - 1.10 - 0.90]/[45 + 0.90] = 19.28%
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Question Exhibit 4.7

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)

Shares of RossCorp stock are selling for $45 per share. Brokerage commissions are 2% for purchases and 2% for sales. The interest rate on margin
debt is 6.25% per year. The maintenance margin is 30%.

Refer to Exhibit 4.7. At the end of one year shares of RossCorp stock are selling for $35 per share and the company paid dividends of $0.85 per
share. Assuming that you paid the full cost of the purchase, what is your rate of return if you sell RossCorp stock?
Answer -33.05%
-23.42%
23.42%
33.05%
-25.35%
Correct Feedback Rate of return = [35 - 45 + 0.85 - 0.70 - 0.90]/[45 + 0.90] = -23.42%
Incorrect Feedback Rate of return = [35 - 45 + 0.85 - 0.70 - 0.90]/[45 + 0.90] = -23.42%
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Question Exhibit 4.7

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)

Shares of RossCorp stock are selling for $45 per share. Brokerage commissions are 2% for purchases and 2% for sales. The interest rate on margin
debt is 6.25% per year. The maintenance margin is 30%.

Refer to Exhibit 4.7. At the end of one year shares of RossCorp stock are selling for $55 per share and the company paid dividends of $0.85 per
share. Assuming that you borrowed 25% of cost of the purchase, what is your rate of return?
Answer -23.51%
29.35%
23.51%
5.21%
10.06%
Correct Feedback Rate of return =
[55 - 45 + 0.85 - 1.10 - 0.90 - (1 - .75)(45)(.0625)]/[(0.75)(45) + 0.90] = 23.51%
Incorrect Feedback Rate of return =
[55 - 45 + 0.85 - 1.10 - 0.90 - (1 - .75)(45)(.0625)]/[(0.75)(45) + 0.90] = 23.51%
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Question Exhibit 4.7

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)

Shares of RossCorp stock are selling for $45 per share. Brokerage commissions are 2% for purchases and 2% for sales. The interest rate on margin
debt is 6.25% per year. The maintenance margin is 30%.

Refer to Exhibit 4.7. At the end of one year shares of RossCorp stock are selling for $35 per share and the company paid dividends of $0.85 per
share. Assuming that you borrowed 25% of cost of the purchase, what is your rate of return?
Answer 33.05%
-33.05%
-23.51%
-25.35%
-40.64%
Correct Feedback Rate of return =
[35 - 45 + 0.85 - 0.70 - 0.90 - (1 - .75)(45)(.0625)]/[(0.75)(45) + 0.90] = -33.05%
Incorrect Feedback Rate of return =
[35 - 45 + 0.85 - 0.70 - 0.90 - (1 - .75)(45)(.0625)]/[(0.75)(45) + 0.90] = -33.05%
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Question Exhibit 4.7

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)

Shares of RossCorp stock are selling for $45 per share. Brokerage commissions are 2% for purchases and 2% for sales. The interest rate on margin
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debt is 6.25% per year. The maintenance margin is 30%.

Refer to Exhibit 4.7. Assume that you purchase 150 shares of RossCorp stock at $45 each by making a margin deposit of 55%. At what price would
you receive a margin call?
Answer $29.39
$26.48
$50.39
$28.93
$50.10
Correct Feedback 0.30 = [(150)(P) - (0.45)(150)(45)]/[(150)(P)]
0.30 = [(150)(P) - 3,037.50]/[(150)(P)]
45P = 150P - 3037.50
-105P = -3037.50
P = $28.93
Incorrect Feedback 0.30 = [(150)(P) - (0.45)(150)(45)]/[(150)(P)]
0.30 = [(150)(P) - 3,037.50]/[(150)(P)]
45P = 150P - 3037.50
-105P = -3037.50
P = $28.93
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Question You own 50 shares of Auto Corporation that you purchased for $30 a share. The stock is currently selling for $50 a share and you placed
a stop loss order at $45. If the stock price drops to $35 a share what is your return on this investment?
Answer -30.0%
16.7%
50.0%
66.7%
150.0%
Correct Feedback ($45 - $30)/$30 = $15/$30 = 0.50 or 50%
Incorrect Feedback ($45 - $30)/$30 = $15/$30 = 0.50 or 50%
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Question You purchased 100 shares of Highlight Company for $20 a share one year ago with a margin of 50%. The stock is currently selling for $28
a share and no dividends were ever paid. The broker charges an annual interest rate of 8% and a $100 commission on both the purchase and sale
of these shares. What is your annual rate of return on this investment?
Answer 21%
47%
52%
60%
72%
Correct Feedback Annual Rate of Return = Profit/Initial Investment
Profit = Ending Market Value - Initial Stock Value - Commissions - Interest
= (100*$28) - (100*$20) - (2*$100) - (0.08*0.5*100*$20)
= $2,800 - $2,000 - $200 - $80 = $520
Annual Rate of Return = $520/(.50*100*$20) = 520/(1,000 + 100) = 0.47 or 47%
Incorrect Feedback Annual Rate of Return = Profit/Initial Investment
Profit = Ending Market Value - Initial Stock Value - Commissions - Interest
= (100*$28) - (100*$20) - (2*$100) - (0.08*0.5*100*$20)
= $2,800 - $2,000 - $200 - $80 = $520
Annual Rate of Return = $520/(.50*100*$20) = 520/(1,000 + 100) = 0.47 or 47%
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Question Exhibit 4.8

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)

You sell 100 shares short of AMF Corporation when it is selling at $45 per share. Your margin requirement is 60% and the commission on the sale is
$50 and the broker charges 10% annual interest. AMF Corporation paid a $0.50 per share dividend while you were short the stock. After one year
you cover your short sale at $35 per share with a $50 commission for the purchase.

Refer to Exhibit 4.8. What is your total dollar return on this investment?
Answer $1,000
$900
$850
$670
$520
Correct Feedback Profit = $4,500 short sale - $3,500 cover - $50 for dividends - $100 for commissions - (1 - .60)($4,500)(0.10) interest
expense = $850 - $180 = $670
Incorrect Feedback Profit = $4,500 short sale - $3,500 cover - $50 for dividends - $100 for commissions - (1 - .60)($4,500)(0.10) interest
expense = $850 - $180 = $670
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Question Exhibit 4.8

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)

You sell 100 shares short of AMF Corporation when it is selling at $45 per share. Your margin requirement is 60% and the commission on the sale is
$50 and the broker charges 10% annual interest. AMF Corporation paid a $0.50 per share dividend while you were short the stock. After one year
you cover your short sale at $35 per share with a $50 commission for the purchase.
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Refer to Exhibit 4.8. What is your annual rate of return on this investment?
Answer 18%
24%
25%
36%
37%
Correct Feedback Return = Profit/Initial Investment = $670/(.6*$4,500 + $50) = $670/$2750 = 0.244
Incorrect Feedback Return = Profit/Initial Investment = $670/(.6*$4,500 + $50) = $670/$2750 = 0.244
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Question Suppose you purchase 200 shares of Best Hat Corporation at $52 a share by making a margin deposit of 50%. If the maintenance margin
is 30%, at what price will you receive a margin call?
Answer $37.14
$37.95
$38.23
$38.76
$39.42
Correct Feedback 0.30 = [(200)(P) - (0.50)(200)(52)]/[(200)(P)]
0.30 = [(200)(P) - 5,200]/[(200)(P)]
60P = 200P - 5,200
-140P = -5,200
P = $37.14
Incorrect Feedback 0.30 = [(200)(P) - (0.50)(200)(52)]/[(200)(P)]
0.30 = [(200)(P) - 5,200]/[(200)(P)]
60P = 200P - 5,200
-140P = -5,200
P = $37.14
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Question You purchased 75 shares of Basket Company for $42 a share. One share of the stock is currently trading between $52 and $53 and you
placed a stop loss order at $47. If the stock price drops to $40 a share, what is your return on this investment?
Answer 8.7%
9.2%
10.3%
11.9%
12.8%
Correct Feedback ($47 - $42)/$42 = $5/$42 = 0.11905 or 11.9%
Incorrect Feedback ($47 - $42)/$42 = $5/$42 = 0.11905 or 11.9%
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Question You sell short 100 shares of Hi-Light Corporation when it is trading at $70. Your margin requirement is 50%. Assuming there was no
commission and the maintenance margin is 25%, at what stock price would you receive a margin call?
Answer $76
$80
$84
$88
$92
Correct Feedback (your equity)/(value of stock owned) = 0.25
[(100)($70) + (0.50)(100)($70) - 100P]/100P = 0.25
[$7,000 + $3,500 - 100P]/100P = 0.25
$10,500 - 100P = 25P
$10,500 = 125P
P = $84
Incorrect Feedback (your equity)/(value of stock owned) = 0.25
[(100)($70) + (0.50)(100)($70) - 100P]/100P = 0.25
[$7,000 + $3,500 - 100P]/100P = 0.25
$10,500 - 100P = 25P
$10,500 = 125P
P = $84
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