Question

Bank Y and Bank Z both have assets of $1 billion. The return on assets for both banks is the same. Bank Y has liabilities of $800 million while Bank Z's liabilities are $900 million. In which bank would you prefer to hold an equity stake? O Bank Z O Bank Y It depends on your preference for return versus risk Instructions: Enter your numeric responses as whole numbers. Explain your choice. If the two banks have $1 billion in assets and have the same return on assets, then net profit after taxes must be the same for both banks. Bank Y has bank capital of $ million, while Bank Z has bank capital of $ million, so the return on equity is higher for Bank z. Bank Z has a higher leverage ratio than Bank Y, as a higher portion of its assets is financed from borrowed Therefore, Bank Z represents a riskier investment. funds.

Answer 1

We know that,

Capital = Assets - Liabilities.

Capital of Bank Y = 1000 - 800 => $200 Mn

Capital of Bank Z = 1000 - 900 => $100 Mn.

As net profits after tax are same for both bank and Bank Z has lower capital base then this will provide higher return on equity.

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