We develop a framework for analyzing the capital allocation and capital structure decisions facing financial institutions such as banks. Our model incorporates two key features: I) value-maximizing banks have a well-founded concern with risk management; and ii) not all the risks they face can be...

The classic approach to capital budgeting based on the standard Capital Asset Pricing Model (CAPM) says that the hurdle rate (or cost of capital) for any new project or investment should depend only on the riskiness of that investment. Thus, the hurdle rate, and hence the expected value of the...