Onshore bank has $20 million in assets with risk-adjusted assets of $10 million. cet1 capital is $500,000, additional tier i capital is $50,000, and tier ii capital is $400,000. how will each of the following transactions affect the value of the cet1, tier i, and total capital ratios? what will the new values of each ratio be? saunders, anthony. financial institutions management: a risk management approach (p. 649). mcgraw-hill higher education. kindle edition.

Explanation:

The current value of the Tier I ratio is 5 percent and the total ratio is 9 percent.

a.The bank repurchases $100,000 of common stock with cash.

The capital of tier one now becomes $500,000-$100,000=$400,000  and total capital of the bank decreases to $400,000+$400,000 = $800,000 (the sum of the two tiers' capital). The Tier I ratio decreases to [tex] (400,000/10,000,000)*100 [tex]= 4 percent and the total capital ratio decreases to[tex] (800,000/10,000,000)*100 [tex]= 8 percent.

b.The bank issues $2,000,000 of CDs and uses the proceeds to issue mortgage loans.

The risk weight for mortgages is 50 percent. Thus, risk-weighted assets increase to $10 million + $2 million (.5) = $11 million. The Tier I ratio decreases to $500,000/$11 million = 4.54 percent and the total capital ratio decreases to 8.18 percent.

c.The bank receives $500,000 in deposits and invests them in T-bills.

T-bills have a 0 risk weight so risk-weighted assets remain unchanged. Thus, both ratios remain unchanged.

d.The bank issues $800,000 in common stock and lends it to help finance a new shopping mall. The developer has an A- credit rating.

Tier I equity increases to $1.3 million and total capital increases to $1.7 million. Since the developer has an A- credit rating, the loan’s risk weight is 50 percent. Thus, risk-weighted assets increase to $10 million + $800,000 (.5) = $10.4 million. The Tier I ratio increases to $1.3m/$10.4m = 12.50 percent and the total capital ratio increases to 16.35 percent.

e.The bank issues $1,000,000 in nonqualifying perpetual preferred stock and purchases general obligation municipal bonds.

Tier I capital is unchanged. Total capital increases to $1.9 million. General obligation municipal bonds fall into the 20 percent risk category. So, risk-weighted assets increase to $10 million + $1 million (.2) = $10.2 million. Thus, the Tier I ratio decreases to $500,000/$10.2 million = 4.90 percent and the total capital ratio decreases to 18.63 percent.

f.Homeowners pay back $4,000,000 of mortgages, and the bank uses the proceeds to build new ATMs.

The mortgage loans were Category 3 (50%) risk weighted. The ATMs are Category 4 (100%) risk weighted. Thus, risk-weighted assets increase to $10 million - $4 million (.5) + $1 million (1.0) = $12 million. The Tier I capital ratio decreases to $500,000/$12 million = 4.17 percent and the total capital ratio decreases to 7.50 percent.