Had a quick question. On the sample, I had calculated the return by taking the total invested amount $100 * 7.4% and subtracted out the cost of borrowed funds ($40 * 4.25%) and divided the sum by the total equity of $60 ( I used 100 as the total portfolio). (7.40 - 1.70) / (60) = 9.5% Can someone explain why this is wrong. The answer key stated it was 8.66%
btt means bump to top (so people can see it). What information is given to you in the problem. I think somewhere you need to use the debt to equity ratio of .66 (40/60). Have you checked errata.
The question was from the CFA sample test online (the free one). Question 13. The facts for the problem were Portfolio return 7.40% 40% of the portfolio is financed Borrowing rate 4.25%
Can anyone help out on this? I am confused as I had no problem doing the Schweser and CFAI problems correctly.
7.40 + ((7.4-4.25)*.4)=8.66
If you’re assigning numbers to the question that was in the sample exam, equity isn’t 60, it’s 100. The statement says that “leverage is 40%”, that means that ratio of (amount borrowed) / (Equity) = 0.40. It doesn’t mean that 40% of the total funds are borrowed. For example: if you had $1,000 in assets and borrowed an additional $500 on margin, you would have a portfolio with 50% leverage. If you borrowed $1,000, you’d have 100% leverage. Plug this into the leverage equation (as rekooh has done above) and you’ll get the correct answer.