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A bank is planning to make a loan of $3,000,000 to a firm in the steel industry. It expects to charge an up-front fee of
A bank is planning to make a loan of $3,000,000 to a firm in the steel industry. It expects to charge an up-front fee of 1.25 percent and a servicing fee of 100 basis points. The loan has a maturity of 12 years with a duration of 8.5 years. The cost of funds (the RAROC benchmark) for the bank is 8 percent. Assume the bank has estimated the risk premium on the steel manufacturing sector to be 2.5 percent, based on two years historical data. The current market interest rate for loans in this sector is 10 percent. Estimate the RAROC for the loan. Would you accept or reject the loan based upon RAROC
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