Risk-Adjusted Return On Capital - RAROC

AAA

DEFINITION of 'Risk-Adjusted Return On Capital - RAROC'

An adjustment to the return on an investment that accounts for the element of risk. Risk-adjusted return on capital (RAROC) gives decision makers the ability to compare the returns on several different projects with varying risk levels. RAROC was popularized by Bankers Trust in the 1980s as an adjustment to simple return on capital (ROC).

Risk Adjusted Return on Capital (RAROC)



Income from capital = (capital charges)*(risk-free rate)
Expected loss = average anticipated loss over the measurement period

INVESTOPEDIA EXPLAINS 'Risk-Adjusted Return On Capital - RAROC'

In financial analysis, riskier projects and investments must be evaluated differently from their riskless counterparts. By discounting risky cash flows against less risky cash flows, RAROC accounts for changes in the profile of the investment. In general, the higher the risk, the higher the return. Thus, when companies need to compare and contrast two different projects or investments, it is important to take into account these possibilities.

RELATED TERMS
  1. Return On Investment - ROI

    A performance measure used to evaluate the efficiency of an investment ...
  2. Capital Asset Pricing Model - CAPM

    A model that describes the relationship between risk and expected ...
  3. Finance

    The science that describes the management, creation and study ...
  4. Risk-Free Rate Of Return

    The theoretical rate of return of an investment with zero risk. ...
  5. Jensen's Measure

    A risk-adjusted performance measure that represents the average ...
  6. Gross Cash Recovery (GCR)

    The gross cash colloctions expected over the remaining life of ...
Related Articles
  1. 5 Things To Know About Asset Allocation
    Investing Basics

    5 Things To Know About Asset Allocation

  2. Introduction To Investment Diversification
    Investing Basics

    Introduction To Investment Diversification

  3. Cut Down Option Risk With Covered Calls
    Options & Futures

    Cut Down Option Risk With Covered Calls

  4. 5 Ways To Measure Mutual Fund Risk
    Mutual Funds & ETFs

    5 Ways To Measure Mutual Fund Risk

comments powered by Disqus
Hot Definitions
  1. Certificate Of Deposit - CD

    A savings certificate entitling the bearer to receive interest. A CD bears a maturity date, a specified fixed interest rate ...
  2. Days Sales Of Inventory - DSI

    A financial measure of a company's performance that gives investors an idea of how long it takes a company to turn its inventory ...
  3. Accounts Payable - AP

    An accounting entry that represents an entity's obligation to pay off a short-term debt to its creditors. The accounts payable ...
  4. Ratio Analysis

    Quantitative analysis of information contained in a company’s financial statements. Ratio analysis is based on line items ...
  5. Days Payable Outstanding - DPO

    A company's average payable period. Calculated as: ending accounts payable / (cost of sales/number of days).
  6. Net Sales

    The amount of sales generated by a company after the deduction of returns, allowances for damaged or missing goods and any ...
Trading Center