Bankers are increasingly discovering that the goal of their business life is not necessarily to maximize ROA (return on assets) or even ROE (return on equity). Rather, fulfillment is achieved by maximizing the unpronounceable RARORAE (risk-adjusted return on risk-adjusted equity). From all indications this is the variable that is most closely linked to the long-run behavior of equity values.
RARORAE, which, sounded syllabically, evokes memories of a college cheer, can also be styled RAROEE (risk-adjusted return on economic equity). Economic equity is one of at least three kinds of equity a bank needs to consider. It is, quite simply, the amount of the shareholders' stake that economic analysis discloses is required to cover the bank's risk of earnings volatility, which is the possible deviation of returns from their expected or average amount.