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

A bank's total one-year economic capital at 99.9% is 500 million. Stand-alone economic capital for its three units is: Retail 200 million, Corporate 250 million, Trading 150 million (sum 600 million). The bank wants to allocate the 500 million so that diversification benefit is distributed proportionally to stand-alone capital. What is the capital allocated to Corporate?

Corporate is allocated 208.3 million. Total economic capital of 500 million is below the 600 million stand-alone sum, so each unit is scaled by 500/600. Corporate's stand-alone 250 million times 0.8333 gives 208.3 million, spreading diversification benefit proportionally.

  1. A208.3 millionCorrect
  2. B250.0 million
  3. C200.0 million
  4. D216.7 million

Explanation

Scaling factor = 500/600 = 0.8333. Corporate = 250 x 0.8333 = 208.3 million. Using 250 ignores diversification. Using 200 allocates Retail's figure. 216.7 would be 500 minus 283.3, which has no basis.

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