Leverage and the Cost of Capital for U.S. Banks

66 Pages Posted: 5 Sep 2014 Last revised: 4 Mar 2018

See all articles by Brian J. Clark

Brian J. Clark

Rensselaer Polytechnic Institute (RPI); Office of the Comptroller of the Currency

Jonathan Jones

Office of the Comptroller of the Currency

David Malmquist

Citigroup, Inc.

Date Written: February 1, 2018

Abstract

We examine the relationship between leverage and the weighted-average cost of capital (WACC) for U.S. banks. Ignoring tax effects, leverage appears to have virtually no impact on the WACCs of too-big-to-fail banks. We find significant differences in this relationship across different mutually-exclusive asset-size classes of banks, suggesting a one-size-fits-all approach to research in this area may be inappropriate. In particular, the WACCs of small- and medium-sized banks are likely to rise with increased capital requirements. We attribute these results to differences in the strength and scope of government guarantees and in the composition of banks’ assets and liabilities.

Keywords: systematic risk, equity beta, bank leverage, cost of capital, Modigliani-Miller

JEL Classification: C33, G21, G28, G32

Suggested Citation

Clark, Brian J. and Jones, Jonathan and Malmquist, David, Leverage and the Cost of Capital for U.S. Banks (February 1, 2018). Available at SSRN: https://ssrn.com/abstract=2491278 or http://dx.doi.org/10.2139/ssrn.2491278

Brian J. Clark

Rensselaer Polytechnic Institute (RPI) ( email )

Troy, NY 12180
United States

Office of the Comptroller of the Currency ( email )

400 7th Street SW
Washington, DC 20219
United States
202-215-6500 (Phone)

Jonathan Jones

Office of the Comptroller of the Currency ( email )

400 7th Street SW
Washington, DC 20219
United States

David Malmquist (Contact Author)

Citigroup, Inc. ( email )

3800 Citi Group Center
Tampa, FL 33610
United States

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