FRM Part II · FRM Exam Part II · Capital Structure in Banks
A bank has total assets of USD 200 billion and book equity of USD 10 billion. Its risk-weighted assets (RWA) are USD 80 billion. Regulatory Tier 1 capital is USD 9 billion. What are the bank's Tier 1 risk-based ratio and its simple Tier 1 leverage ratio (Tier 1 divided by total assets)?
The Tier 1 risk-based ratio is 9 divided by 80, or 11.25%, and the leverage ratio is 9 divided by 200, or 4.5%. Regulatory Tier 1 capital must be used, not book equity, and the denominators are RWA and total assets respectively.
- A11.25% and 4.5%Correct
- B12.5% and 4.5%
- C11.25% and 5.0%
- D4.5% and 11.25%
Explanation
Tier 1 ratio = 9/80 = 11.25%. Leverage ratio = 9/200 = 4.5%. Using book equity of 10 gives 12.5% and 5.0%, which is the mistake of ignoring regulatory deductions. Swapping the denominators reverses the figures.
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