Finance

Fun with Math, Part 2: Credit Risk Illustrated

by Christopher Liechty | November 5, 2013

A common view of bankers is that we spend our mornings swindling the public and our afternoons rolling around in piles of money.  While I can’t speak for the investment banking community, life in commercial banking is far less edgy (and far more ethical).  In our business, service is essential and we operate on very narrow margins.  And, as the recent crisis showed, mistakes can have devastating financial consequences.

On an almost-hourly basis, we’re asked to look a little more carefully at a deal we originally declined.  Credit risk, you see, is an abstract notion to non-bankers.  The customers being presented are always “good people” or really nice, or really need the money.  We like to work with people like that, but it isn’t quite as simple as saying yes and hoping for the best.  Credit risk is real and bad underwriting has big consequences.

Measures of profitability in banking

To see this, let’s go over two basic measurements of banking profitability.  In commercial banking, a return on assets (ROA) of 1.5% is considered good.  Because that number is an after-tax figure, the pre-tax equivalent is 2.3% assuming a 35% corporate tax rate.  We’ll use that number later, too.  Banks also measure their return relative to the equity – capital – invested in the company.  For example, a bank with 12% capital and a 1.5% ROA is generating a 12.5% return on equity (ROE; 100%/12*1.5).  You don’t need to memorize those ratios, but they’ll help make sense of the next section.

Three scenarios show the small margin of error

To see what credit risk does to a bank’s income statement, consider three scenarios.  In each we’ll have a $1 million loan portfolio made up of 100 loans, each loan with a $10,000 balance.  The respective scenarios have between zero and two charge offs, respectively.  It doesn’t seem like there’s much difference between no loans in 100 and two loans in 100 charging off, but the effect is substantial.  (For simplicity, I’ll calculate the ROA on the portfolio value, not the average assets.)

Picture1

In short, on a $1 million portfolio like this, a single loss takes good performance to mediocre, decreasing the ROE from 12.5% to 7.1%.  The second loss almost completely wipes out the gains for the bank, leaving it with a 1.67% ROE.  Can you imagine how happy the bank’s investors will be with such miniscule returns?  And you know what happens with a third charge-off that year, right?  The bank loses money, management is on the hot seat, pressure increases – you know the drill.

With narrow margins like this, it is critical for a bank to make good loan decisions and to price their loans appropriately.  If we can’t approve a deal for a really nice person, it doesn’t reflect that individual’s character.  It’s just that we must be very careful in order to remain in business for the long haul.

Home Improvement

Hours of Operation Monday – Friday
8am – 6pm MT
Saturday
9am – 4pm MT

Holiday Closures

Please note: Holiday closures are not the same for the Recreation and Home Improvement Departments.

  • New Year’s Day
  • Labor Day
  • Memorial Day
  • Thanksgiving
  • Independence Day
  • Christmas
  • New Year’s Day
  • Memorial Day
  • Independence Day
  • Labor Day
  • Thanksgiving
  • Christmas
  • Day before Thanksgiving,
    Wednesday,
    November 26, 2025
    – Closing at 3:00 MT

    Day after Thanksgiving,
    Friday,
    November 28, 2025
    – Closing at 4:00 MT
  • Day before Christmas,
    Wednesday,
    December 24, 2025
    – Closing at 3:00 MT

    Day After Christmas,
    Friday,
    December 26, 2025
    – Closing at 4:00 MT

    Saturday after Christmas,
    December 27, 2025
    – Closed
  • New Year’s Eve
    Wednesday,
    December 31, 2025
    – Closing at 4:00 MT

    Day After New Years,
    Friday,
    January 2, 2026
    – Closing at 4:00 MT

    Saturday After New Years,
    January 3, 2026
    – Closed

Home Improvement Application Processing Open as Follows

Home Improvement loan application processing is open on the following holidays. All other departments are closed.

  • Martin Luther King Jr. Day
  • Columbus Day/Indigenous Peoples’ Day
  • Presidents’ Day
  • Veterans Day
  • Juneteenth
  • Martin Luther King Jr. Day
  • Presidents’ Day
  • Juneteenth
  • Columbus Day/Indigenous Peoples’ Day
  • Veterans Day

Recreation

Hours of Operation Monday – Friday
8am – 5pm MT
Closed Weekends

Holiday Closures

  • New Year’s Day
  • Labor Day
  • Martin Luther King Jr. Day
  • Columbus/Indigenous Peoples’ Day
  • Presidents' Day
  • Veterans Day
  • Memorial Day
  • Thanksgiving
  • Juneteenth
  • Christmas Day
  • Independence Day
  • New Year’s Day
  • Martin Luther King Jr. Day
  • Presidents' Day
  • Memorial Day
  • Juneteenth
  • Independence Day
  • Labor Day
  • Columbus/Indigenous Peoples’ Day
  • Veterans Day
  • Thanksgiving
  • Christmas Day
  • Day before Thanksgiving,
    Wednesday,
    November 26, 2025
    – Closing at 3:00 MT

    Day after Thanksgiving,
    Friday,
    November 28, 2025
    – Closing at 4:00 MT

    Day before Christmas,
    Wednesday,
    December 24, 2025
    – Closing at 3:00 MT
  • Day After Christmas,
    Friday,
    December 26, 2025
    – Closing at 4:00 MT

    New Year’s Eve
    Wednesday,
    December 31, 2025
    – Closing at 4:00 MT

    Day After New Years,
    Friday,
    January 2, 2026
    – Closing at 4:00 MT

Borrower Services

Hours of Operation Monday - Friday
8am-11pm MT
Saturday
9am-1pm MT

Holiday Closures

:
  • New Year's Day
  • Thanksgiving
  • Memorial Day
  • Christmas
  • Independence Day
  • New Year's Day
  • Memorial Day
  • Independence Day
  • Thanksgiving
  • Christmas

Welcome to Our New Website

Welcome to the newly redesigned MedallionBank.com. Our website now features a fresh look and includes a dedicated FAQ page for borrowers, as well as new content for strategic partners.

We would like to hear from you.

We value your feedback and always want to learn how we can improve. Please submit thoughts about your experience with Medallion Bank here:

Submit Feedback

Give us a review

We invite you to share your experience with Medallion Bank on one of the websites listed below. Your reviews and feedback are important to us!