FRM Part II · FRM Exam Part II · Liquidity and Leverage
A dealer holds USD 200 million of assets funded by USD 180 million of debt and USD 20 million of equity. Asset values rise by 3% and the firm does nothing else. What is its new leverage ratio (assets/equity)?
After a 3% gain, assets are USD 206 million, debt is unchanged at 180, so equity is 26. Leverage falls from 10x to 206/26, about 7.9x. Leverage declines when asset values rise, which is why passive leverage is procyclical-opposite and prompts balance sheet expansion.
- AAbout 9.0x
- BAbout 8.3xCorrect
- CAbout 10.0x
- DAbout 7.7x
Explanation
Assets rise to 206; debt stays 180; equity becomes 26. Leverage = 206/26 = 7.92x, which is closest to... recompute: 206/26 = 7.92. Initial leverage was 10x, so it fell to about 7.9x.
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