Question

You sell short 500 shares of CF Industries Holdings Inc. that are currently selling at $25.00 per share. You post the 60.00% margin required on the short sale. If you earn no interest on the funds in your margin account, what will be your rate of return after 1 year if CF Industries Holdings Inc. is selling at $23.00

Answer 1

13.33%

Step-by-step explanation:

Short sale = 500 shares × $25 = $12500

Margin required to be deposited as a percentage of transaction of short sale = $12500 × 60% = $7500

Rate after one year, $23

A short position will be squared by a reverse long (buy) position,

Thus, 500 shares long at $ 23 = 500 shares × 23 = $11,500

Thus, gain on the transaction:

= Short sale value - long buy value

= $12,500 - $11500

= $1000

Since, the contract being derivative wherein only net amount i.e $1000 would be transacted, i.e actually received here, the money invested is $7500 which was deposited in the margin account.

Rate of return after 1 year would be =
`(Gain\ earned)/(Margin\ deposited)` =
`(1000)/(7500)` = 13.33%