Risk-Weighted Assets
IntermediateRisk-weighted assets are a bank's assets adjusted for their level of risk, so that riskier assets count for more and safer assets count for less. They are used to set how much capital a bank must hold.
Not all bank assets are equally risky. Cash and loans to stable governments are very safe. Mortgages carry moderate risk. Unsecured loans to businesses or individuals carry more. Risk-weighting assigns each type of asset a percentage weight to reflect this.
For example, suppose a bank holds 100 million of government bonds with a 0% weight, 300 million of mortgages with a 35% weight and 200 million of business loans with a 100% weight. Its risk-weighted assets would be 0 plus 105 million plus 200 million, a total of 305 million, even though its total assets are 600 million.
Capital requirements are set as a percentage of risk-weighted assets. If the required ratio is 10%, this bank would need at least 30.5 million of capital.
Risk weights come from international standards and national rules. Larger banks may be allowed to use their own approved models to estimate weights. The system encourages banks to hold more capital when they take more risk, but it depends on the weights being accurate, which is why regulators also use simpler measures such as the leverage ratio.
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