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1、AdvancedCreditRiskAnalysisandManagement.CibyJoseph.©2013CibyJoseph.Published2013byJohnWiley&Sons,Ltd.21PricingMethodsWhatmethodshouldbeadoptedwhilepricingacredit?Ifthepriceistoohigh,goodqualitycreditwouldbehardtocomeby.Ontheotherhand,ifthecreditriskisunderpriced,notonlydoest
2、hevalueadditionsufferbutitalsomeansthattheriskunderwrittenisnotappropriatelycompensatedfor.Pursuingrisk-adjustedprofitabilityisatoughjob.Nowhereisthisharderthaninlargecorporatelending,where,bymostaccounts,adequaterisk-adjustedreturnsarehardtoachieve,giventhecompetitioninthem
3、arketforcreditworthyaccounts.Tocontrolcreditriskexposureswhileensuringadequatereturntoshareholderswhohaveriskedtheircapital(increatingcreditassets),institutionsmustaccuratelymeasurethevaluedeliveredbyaloan,bondoranyothercreditcontract.Creditproviderswhoaredeficientinthisvita
4、lcapabilityareessentiallytryingtorunabusinesswithoutknowinghowtopricecreditcommensuratelywiththeunderlyingcreditrisk.Mostinstitutionstodayuserudimentarycreditriskpricingprocedures.Theconsequenceisthatthecreditprovidersoriginateoracquiremanycreditassetsthattheyshouldnot,while
5、turningdownthosetheyshouldhaveaccepted.Thebasicpricingmodel,describedinthepreviouschapter,thatstressestherecoveryofcostsandareasonableprofitfortheshareholders,canbeappliedbydifferentmethodsdiscussedbelow,startingwithRORAC:21.1RORAC(RETURNONRISK-ADJUSTEDCAPITAL)BASEDPRICINGRO
6、RAC,alsoknownasRAROC(Risk-AdjustedReturnOnCapital)orROCAR(ReturnOnCapitalAtRisk)attemptstolinkthereturnstotheunderlyingrisksinvolved.ThebasicprincipleofRORACisthatnotallassetsareequallyrisky.Firsttheassetsareconvertedonthebasisoftheriskinvolved,i.e.RWAsorriskassets.ThentheRe
7、turnOnRiskAssetsiscalculatedbyusingthefollowingformula.RORAmaybedefinedasbeingthepercentagenetreturnonriskassetsdeployed.RORA=Netprofitbeforetax(ornetreturn)/RiskassetsTherelevanceoftheRORAmethodliesinthefactthatallbanksandlendingorganizationsattempttomaximizethereturntothes
8、hareholders,buttheriskstakenshouldbereflectedinthereturns.Thismeansthat,asf
