Question

When banks undergo a safety and soundness examination, their primary regulator assigns the bank what is known as a “CAMEL” rating. What does each letter of this acronym rating represent (short answer)? Give a brief definition of each letter component.

Answer 1

CAMEL rating stands for:

C = Capital Adequacy; A = Asset quality; M = Management; E = Earnings; L = Liquidity

rating of 1 is the best and 5 is the worst for these 5 factors.

Capital Adequacy is the ratio calculated by dividing a bank's tier 1 and 2 capital by its risk Weighted assets. this to check that if bank's capital is sufficient to cover losses created by its risky assets.

Asset quality is checking what quality of assets a bank has. a bank's assets are the loans provided to customers. so, these loans are of high risk which means less probability of getting 100% principal and interest or less risk.

Management is one factor in this rating to check if management is capable of pointing out, measuring and controlling risks faced by the bank.

Earnings is the factor to check if bank is able to generate returns form its operations to expand, remain competitive and able to add capital to continue its operations and the quality of this earnings.

Liquidity is to check the availability of assets which can be easily converted to cash, use of short term financing resources and interest rate risk sensitivity of assets and liabilities.