Ratios can be used to determine how creditworthy an institution is. Utilising this form of assessment is a good way of determining where a banking institution stands financially. This can go a long way towards preventing a repeat of the 2008 financial crisis.
Banks are an integral part of everyday life. The money that is stored in accounts has multiple uses, which is why there has to be a high degree of trust.
A lack of proper management of risk is part of the reason of one of the largest global financial institutions going under, which previously wasn’t thought to be possible.
Using credit analysis ratios for banks enables a thorough exploration of a bank’s finances, so its clients are protected.
Profitability Ratios are used in order to work out if the bank is able to make money that is sufficient to pay for costs.
The Leverage Ratio analyses capital. If a bank’s capital is sourced from its owners, rather than from customers, this is more favourable.
The better the ratio, the more favourable this will be for the bank’s performance. If a bank’s customers all decide to withdraw deposits at the same time, this will leave the bank in a financially-vulnerable position, unlike if its resources are not mainly from its customers.
Asset Quality explores the effect of bad debts of the banks repayment ability. Using the asset quality ratio = loan impairment charges/ Total Assets, the risk that a bank won’t have enough money can be explored. If a bank is not collecting on any of its loans, then there is not enough money flowing in to enable the bank to pay its debts.
Liquidity refers to the amount of money a bank has to pay its debts off. If the bank doesn’t have enough money, this leaves it a financially-vulnerable position. So these are some of the most ideal credit analysis ratios for banks.