This lesson introduces the key ratios used to measure the performance and financial health of a bank, organized around the CAMELS framework .

4.1 Capital Adequacy Ratios
These ratios measure a bank’s ability to absorb losses:

  • Common Equity Tier 1 (CET1) Ratio: CET1 capital divided by risk-weighted assets (RWA). This is the highest-quality capital ratio .

  • Tier 1 Capital Ratio: Tier 1 capital divided by RWA.

  • Total Capital Ratio: Total capital (Tier 1 + Tier 2) divided by RWA.

  • Leverage Ratio: Tier 1 capital divided by total exposure (unweighted), providing a non-risk-based backstop measure .

4.2 Asset Quality Ratios
These ratios measure the quality of the bank’s loan portfolio:

  • Non-Performing Loans (NPL) Ratio: NPLs divided by total loans. A higher ratio indicates lower asset quality .

  • Provision Coverage Ratio: Loan loss reserves divided by NPLs. This measures how well the bank is reserved for potential losses .

  • Net Charge-Off Ratio: Net charge-offs divided by average loans. This measures actual loan losses .

4.3 Earnings Ratios
These ratios measure the bank’s profitability:

  • Return on Equity (ROE): Net income divided by shareholders’ equity. A primary measure of profitability for shareholders .

  • Return on Assets (ROA): Net income divided by total assets. Measures how efficiently the bank uses its assets to generate profit .

  • Net Interest Margin (NIM): Net interest income divided by average earning assets. Measures the profitability of the bank’s core lending and deposit-taking activities .

4.4 Liquidity Ratios
These ratios measure the bank’s ability to meet its short-term obligations:

  • Liquidity Coverage Ratio (LCR): High-quality liquid assets divided by total net cash outflows over 30 days. Requires a minimum of 100% .

  • Net Stable Funding Ratio (NSFR): Available stable funding divided by required stable funding. Requires a minimum of 100% .

 

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