Use the Information for the Question(s) Below

question 69

Multiple Choice

Use the information for the question(s) below.
Consider two firms, Firm X and Firm Y, that have identical assets that generate identical cash flows. Firm Y is an all-equity firm, with 1 million shares outstanding that trade for a price of $24 per share. Firm X has 2 million shares outstanding and $12 million in debt at an interest rate of 5%.
-Assume that MM's perfect capital markets conditions are met and that you can borrow and lend at the same 5% rate as Firm X. You have $5000 of your own money to invest and you plan on buying Firm Y stock. Using homemade leverage, how much do you need to borrow in your margin account so that the payoff of your margined purchase of Firm Y stock will be the same as a $5,000 investment in Firm X stock?

• A) $10,000
• B) $5,000
• C) $2,500
• D) $0

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Definitions:

Open-market Purchases

Transactions where a central bank buys government securities in the open market to increase the money supply.

Federal Funds Market

A market in which banks lend funds to one another for short-term periods, usually overnight, with interest rates determined by the supply and demand for these loans.

Aggregate Demand

The total demand for goods and services within a particular market, at a given period of time.

Stabilization Policy

Government policies aimed at maintaining economic stability by controlling inflation, reducing unemployment, and promoting growth.