Prague Economic Papers 2024, 33(2):187-219 | DOI: 10.18267/j.pep.859

Risk-return Portfolio Level Trade-off for Czech Banks

Pavel Jankulár
Faculty of Finance and Accounting, Department of Monetary Theory and Policy, Prague University of Economics and Business, Prague, Czech Republic

This paper examines the validity of the risk-return trade-off for a sample of Czech banks over the period 2002-2022 by analysing the relationship between the bank risk and risk-adjusted returns. I find evidence of a significant negative association between the regulatory risk measure and risk-adjusted returns, indicating that the risk-return trade-off does not hold. Specifically, a 100 bps increase in the risk is associated with about a 7 bps decrease in the return on risk-adjusted assets (RORWA) and an 11 bps decrease in the risk-adjusted net interest margin (rNIM) in the short run. The long-run effect is about double for RORWA and almost triple for rNIM. I also find evidence that during the period of low interest rates, the effect for RORWA was about a half smaller, albeit still negative. On the contrary, when non-regulatory measures of risk or risk-adjusted profitability are used, the risk-return trade-off seems to hold.

Keywords: bank profitability, bank risk, risk-return trade-off, RORWA, RAROC, dynamic panel regression,
JEL classification: C33, D01, G11, G14, G21

Received: November 26, 2023; Revised: January 16, 2024; Accepted: January 21, 2024; Published: May 3, 2024  Show citation

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Jankulár, P. (2024). Risk-return Portfolio Level Trade-off for Czech Banks. Prague Economic Papers, 33(2), 187-219. doi: 10.18267/j.pep.859
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