Sample 1 - Leverage Return

[mumukada]

So in the question with the repo rates etc…they state a) Average client portfolio had a return of 7.40%, they had a 40% leverage ratio and the repo rate was 4.25%
Their guideline answer is
7.40% + [40/100 * (7.40 - 4.25)] = 8.66%
but isn’t the equation Ri + (D/E *(Ri - Rd)
that would give us 7.40% + [40/60 * (7.40 - 4.25)] = 9.5%
am i misinterpreting the leverage ratio?

 

[spud99]

40/60 would give you a leverage of 66.67% as opposed to 40%.

 

[Big Babbu]

Leverage ratio is Debt/Equity
That means the have 40 in debt, and 100 in equity for a total investment of 140

 

[mumukada]

yeah…clearly my brain’s were stufffed with something else at the time…
now that I think about it..i was trying to do this in a rush…read leverage ratio as % of debt in total assets..
thanks

 

[Big Babbu]

Figured as much.
This is why the “experts” recommend Friday as a rest day.

 

[deriv108]

I may not get this right in a real exam.