Skip to content

FRM Part II · FRM Exam Part II · Capital Structure in Banks

A bank has equity of $8 billion and total assets of $100 billion. Its assets suffer an unexpected loss of 5% of their value with no change in liabilities. What is the bank's equity-to-assets ratio after the loss, and what does it illustrate?

Equity falls from $8 billion to $3 billion after the $5 billion loss, so the ratio is about 3% of the remaining $95 billion of assets. This shows leverage magnifies asset losses relative to equity, since a 5% asset decline wipes out over 60% of equity.

  1. A3.0%; leverage magnifies asset losses relative to equityCorrect
  2. B8.0%; equity ratio is unchanged because liabilities are fixed
  3. C3.0%; losses are absorbed by depositors first
  4. D5.0%; equity falls by the same percentage as assets

Explanation

Loss = 5% x 100 = $5 billion. Equity falls to $3 billion and assets to $95 billion, so ratio = 3/95 = 3.16%, about 3.2%, closest to 3.0%. Equity fell 62.5% while assets fell 5%, showing leverage magnification. Depositors bear losses only after equity is exhausted.

Did you get it right without looking?

One question tells you little. A timed set on Capital Structure in Banks shows your real accuracy, how long you take and where you lose marks.

Practise Capital Structure in BanksFree diagnostic mock

More Capital Structure in Banks questions