A speculator sells a stock short for $50 a share. The company pays a $2 annual cash dividend. After a year has passed the seller cover a short position of $42. What is the percentage return on the position (excluding the impact of any interest expense and commission)?
To calculate the percentage return on the position, you need to determine the net profit or loss from the short sale. Here's how you can approach this:
1. Start by calculating the initial value of the short sale position. Since the stock was sold short for $50 a share, the initial value per share is $50.
2. Now, consider the dividend paid by the company. The annual cash dividend is $2 per share. As a short seller, you are obligated to pay this dividend to the stock lender who provided the shares. Since one year has passed, the total dividend paid would be 1 year multiplied by $2, which equals $2.
3. Next, calculate the purchase price when covering the short position, which is $42 per share.
4. Calculate the net profit or loss by subtracting the purchase price (step 3) from the initial value (step 1), and then adding the dividend paid (step 2). In this case, the net profit/loss would be $50 - $42 + $2 = $10.
5. Finally, calculate the percentage return on the position by dividing the net profit/loss (step 4) by the initial value (step 1) and multiplying by 100 to express it as a percentage. In this case, the percentage return would be ($10/$50) * 100 = 20%.
Therefore, the percentage return on the short position would be 20% (excluding the impact of any interest expense and commission).