What is the essential idea behind Risk-adjusted return on capital (RAROC)models?

Question

Quizplus · Accepted Answer

RAROC models balance the expected return on a loan against the potential risk of default, taking into account the cost of funding. This helps banks and financial institutions assess the profitability of their loans and make informed decisions about lending. Option A is focused only on evaluating return on assets, which is not the same as RAROC. Option B is related to assessing default risk, but it is not the central idea behind RAROC models. Option D is unclear, since the current term structure of interest rates may not be directly tied to default rates.

What Is the Essential Idea Behind Risk-Adjusted Return on Capital