RWA – Risk Wieghted Asset

RWA – Risk Wieghted Asset

Risk-weighted assets (RWA) is an asset bank or off-balance-sheet exposures, weighted according to risk. This type of asset calculation is used in the capital requirement or Capital Adequacy Rate (CAR) for a financial institution. Basel I, the agreement published by the Basel Committee on Banking Supervision, explains why using a risk-weighted approach is the methodology that banks should adopt for calculating capital.
• It provides an easier approach to compare banks in different geographies;
• Off-balance-sheet exposures can be easily included in capital adequacy calculations;
• Banks are not prevented from carrying low net risk assets in their books;
Typically, different asset classes have different risk weights associated with them. The calculation of risk weights depends on whether the bank has adopted the standard or IRB approach under Basel II.
Some assets, such as debentures, are assigned a higher risk than others, such as cash or government securities. Since different types of assets have different risk profiles, weighting assets, according to their level of risk, are mainly adjusted for assets that are less risky, allowing banks to discount lower risk assets.
A document was written in 1988 by the Basel Committee on Banking Supervision, which recommends certain rules and regulations for banks. It was called Basel I. After a review of the framework, Basel II was instituted. More recently, the committee published another revised framework known as Basel III. The main recommendation in this document is that banks should maintain sufficient capital to equal at least 8% of their risk-weighted assets. The calculation of the amount of risk-weighted assets depends on which revision of the Basel Accord is followed by the financial institution. Most countries have implemented some version of this regulation.