Option-Based Intermediary Leverage

Posted: 19 Nov 2020 Last revised: 2 Nov 2023

See all articles by Thomas Gruenthaler

Thomas Gruenthaler

Tilburg University - Tilburg University School of Economics and Management

Friedrich Lorenz

University of Münster - Finance Center Muenster

Paul Meyerhof

University of Münster - Finance Center Muenster

Date Written: September 11, 2022

Abstract

We introduce a new proxy for the health of financial intermediaries-the Leverage Bearing Capacity (LBC). LBC is the leverage of a fictitious intermediary that targets a fixed level of risk and rebalances its capital structure on an ongoing basis. Our measure is based on market values, incorporates off-balance sheet activities, is available at any frequency, and inherently captures higher-order risks. We analyze the dynamics of LBC in event studies and demonstrate that it is closely linked to financial sector uncertainty. Building on an intermediary asset pricing model, we validate that LBC proxies the marginal wealth of intermediaries. Empirically, it explains the expected returns across several asset classes and subsumes the explanatory power of existing measures of intermediaries’ health, financial uncertainty, higher-order risks, and common risk factors.

Keywords: Intermediary asset pricing, financial intermediation, option-implied information, leverage, financial constraints, risk-bearing capacity, balance sheet valuation

JEL Classification: G12, G13, G20, G32

Suggested Citation

Gruenthaler, Thomas and Lorenz, Friedrich and Meyerhof, Paul, Option-Based Intermediary Leverage (September 11, 2022). Journal of Banking and Finance, Vol. 145, 2022, https://doi.org/10.1016/j.jbankfin.2022.106670, Available at SSRN: https://ssrn.com/abstract=3719019 or http://dx.doi.org/10.2139/ssrn.3719019

Thomas Gruenthaler

Tilburg University - Tilburg University School of Economics and Management ( email )

P.O. Box 90153
Tilburg, 5000 LE
Netherlands

HOME PAGE: http://https://sites.google.com/view/tgruenthaler

Friedrich Lorenz

University of Münster - Finance Center Muenster ( email )

Schlossplatz 2
Muenster
Germany

Paul Meyerhof (Contact Author)

University of Münster - Finance Center Muenster ( email )

Schlossplatz 2
Muenster
Germany

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