Banking Return on Equity
Overview
ROE Breakdown
{% Return \, on \, Equity = %}
{% [ Average \, Asset \, Income \times Total \, Assets %}
{% - Average \, Interest \, Expense * Total \, Debt %}
{% - Average \, Operating \, Expense \times Total \, Assets ] %}
{% \times (1 - Tax \, Rate)/ Equity %}
Given this equation, there are a couple of levers that can be pulled to change the ROE. If we assume that average interest, averate expense and
average operating expense are dictated by the market that the bank operates in, and that the tax rate is also fixed, then the bank can
only change the total assets, total debt, or total equity.
A very simple method to increase ROE is to decrease the total equity, by returning money to shareholders in the form of
stock buybacks or dividends.
Return on Tangible Equity
an alternative to the return on equity is the return on tangible equity. While the numbers will come out differently,
the process is largely the same.
