Sun Bank has issued a one-year $5 million loan commitment to a customer for an up-front fee of 15 basis points and at a fixed rate of 12 percent.The back-end fee for the unused portion of the commitment is 5 basis points.The bank requires a 10 percent compensating balance in demand deposits.Reserve requirements on demand deposits are 10 percent.

What is the expected return on the loan to the bank if 50 percent of the loan is drawn using discounted cash flows? That is,the return has to be estimated at the beginning of the loan period using present values.Assume there are reserve requirements of 10 percent on demand deposits.

Question

Sun Bank has issued a one-year $5 million loan commitment to a customer for an up-front fee of 15 basis points and at a fixed rate of 12 percent.The back-end fee for the unused portion of the commitment is 5 basis points.The bank requires a 10 percent compensating balance in demand deposits.Reserve requirements on demand deposits are 10 percent.

What is the expected return on the loan to the bank if 50 percent of the loan is drawn using discounted cash flows? That is,the return has to be estimated at the beginning of the loan period using present values.Assume there are reserve requirements of 10 percent on demand deposits.

Quizplus · Accepted Answer

The expected return is calculated by considering the fees, compensating balance, reserve requirements, and the portion of the loan drawn. The effective loan amount is reduced by the compensating balance and reserve requirements, and the fees are added to the interest income to calculate the return.

Sun Bank Has Issued a One-Year $5 Million Loan Commitment