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Final

COMM101 Study Guide - Final Guide: Employee Retention


Department
Commerce
Course Code
COMM101
Professor
James Brandon
Study Guide
Final

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Sample Final Week 5 & Week 6
1. What is the concept of financial leverage? Purpose?
It engage in a transaction whose value is greater than the actual dollars you have available, it
creates a potential to make a larger return or loss than indicated by the investment you have
made. Examples: (1) short selling deposit 50% of value of transaction; (2) buying on margin
invest part of value of transaction (margin requirement), broker lends the rest. Purposes:
It allows you to engage in an activity with more strength than you originally have.
2. Describe use of leverage, rules, transaction steps, benefits, similarities and differences in
margin buying.
In margin buying, there is a minimum margin requirement to ensure that the investor can pay
the debt back and so that the broker can have the money back (they do not lose money).
Rules: must qualify margin account; must sign ‘hypothecation’ agreement (Margin Account
Agreement Form) pledging of securities as collateral for a loan; must pay interest on loan;
the investors percentage equity (margin) in the margined stock must always be greater or
equal to the minimum margin requirement.
Current Market Value − loan
Current Market Value % 𝑚𝑎𝑟𝑔𝑖𝑛 𝑟𝑒𝑞𝑢𝑖𝑟𝑒𝑚𝑒𝑛𝑡
3. Describe use of leverage, rules, transaction steps, risks, benefits, similarities and differences
in short selling.
In short selling, you borrow stocks from the broker and deposit 50% of the value of transaction.
It is selling high and buying low sell shares that you do not own.
Rules: deposit must be 150& CMV at start; maintenance margin must be met = 125% to 140%;
agreement may be terminated be either party at any time forced to cover / “buy-in”;
dividends declared are the responsibility of seller.
4. What impacts the coupon rate at bound issue?
The interest rate in economy and risk premium. (Coupon rate should be the same for all bonds
of equal risk)
5. What are the three scenarios of buying bonds?
(1) Pay at a “Discount” – This scenario happens when the coupon rate is less than the expected
yield. Example: you are buying a 2008 bond with a 3% coupon and todays expected bond yield
is 5%. Notice: with a yield expectation that is greater than the coupon rate, you would need a
capital gain to attain the yield, which means you pay less than face value for the bond. (2) This
scenario happens when the coupon rate is more than the expected yield. Example: you are
buying a 2004 with a 7% coupon and today’s expected yield is 5%. Notice: with a yield that is
less than the coupon rate, you would be willing to pay more than face value (a premium) for
the bond; in other words you would take a capital loss. (3) This scenario happens when the
coupon rate is equal to the expected yield. Example: you are buying a 2006 bond with a 5%
coupon and todays expected bond yields are 5%. Notice: Since your yield expectation is met
by the coupon rate, you would have no capital gain, which means you pay face value for the
bond.
6. What do bond prices relate to? How do bond prices relate to it? (What impacts bond price
when traded?)
Bond prices vary inversely with interest rates.

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7. What are the characteristics of stocks?
Voting rights; no fixed term; variable return; discretionary payment (dividends); risks.
8. What impacts stock price?
Demand and supply of stock due to negative or positive perceptions / facts. Primary factors:
earnings above or below expectations, rumours; general market conditions bull vs. bear
market, economy, interest (especially preferred); speculation bought or sold on belief price
will soon move.
Price of a security is a collective expression of all opinions of those who are buying and selling.
Undervalued issue offers higher return than stocks of similar risk.
9. Comparison of long and margin buy: Example: XYZ is trading at $45. You have $6,300 to
invest. The minimum margin requirement is 70%. Annual interest on the margin loan in 10%.
In each scenario, you sell at $55 after 3 months.
A) What is your capital gain if you go long and purchase the stock with your money only?
B) What is your capital gain if you utilize the full margin and borrow funds from the broker?
Note: Assume commissions / brokerage fees of 2% on all purchase and sales of stocks.
10. Use two ways to calculate margin call: 1 month into the transaction the price of XYZ drops
to $40, bought in at $45.
Therefore, receive a ‘margin call’ from broker for amount ‘x’ that will bring percentage equity
back up to minimum requirement (increase equity by reducing loan).
11. What is the impact of margin call on the interest? (if all 3 months low prices)
(Margin call 1 month into transaction, sell stocks after total of 3 months)
Obviously, as the brokers loan goes down, your interest calculation has to reflect that.
12. What happens if you do not meet your margin even after the margin call?
The broker can sell it.
13. Calculate the capital gain and yield after all: 2 months after call, sell XYZ at $55.
14. What is the maximum profit you can make from margin buying?
No limit in theory infinity.

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15. What is the maximum loss?
Price paid for stock (includes commission).
16. What are the risks and costs of margin buying?
Interest expense, margin calls.
17. What happens with the money paid on a margin call?
Broker uses the money to reduce your loan.
18. What the definition of selling short?
Sell high, buy low.
19. Do the calculation for short selling: ABC selling at $70/share; expect drop in price, short 100
shares, buy them in at $55. Broker lends you 100 shares.
20. Do the calculation for margin call: during the transaction (prior to the price falling and
covering your short) the price of XYZ rises to $85. What happens? What is the overall yield
after call?
21. What is the maximum profit you can make?
Price of short (drop in value, maximum drop to zero).
22. What is the maximum loss?
Anything goes; price can rise infinity.
23. What are the risks of short selling?
Margin calls; dividends any be declared that you must cover; rising prices, unlimited loss;
forced to cover short at disadvantageous price.
24. What happens with the money paid on a margin call?
Broker adds the money to your account = increases deposit
25. Describe the concept of time value of money.
The money does not buy as much in the future as today.
26. Why is $1 one year from today worth the same as $1 today?
(1) Risk. (2) Real interest. (3) Inflation.
27. Why is the concept of the time value of value of money important?
Because it is important to leases, mortgages, bonds, retirement contributions, stock valuation,
project selection.
28. Type 1: Single amount FV Single period: What will you have in one year if you deposit $100
into an account today that earns 4% interest compounded annually?
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