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A financial institution is considering a loan application for $2 million. It expects to charge 1/5 % origination fee and 10 basis points as service fee. The institution has estimated a risk premium to be around 0.25%. The market interest rate for similar loans is 11%. The 98th (worst case) loss rate for borrowers has been historically 2%, and the proportion of loans of this type that cannot be recovered on default has been 85%. Using the RAROC, should the financial institution make the loan? Assume cost of funds to be 11.5%.

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Financial Management, Finance

Category:- Financial Management
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