Equity Is Cheap for Large Financial Institutions

83 Pages Posted: 14 Mar 2016 Last revised: 31 Jan 2019

See all articles by Priyank Gandhi

Priyank Gandhi

Rutgers University, New Brunswick

Hanno N. Lustig

Stanford Graduate School of Business; National Bureau of Economic Research (NBER)

Alberto Plazzi

Universita' della Svizzera italiana; Swiss Finance Institute

Date Written: January 16, 2019


In most countries, equity is a cheap source of funding for a country’s largest financial institutions. On average, the stocks of the top 10% financial companies in a country account for over a quarter of total market capitalization, but these stocks earn returns that are significantly lower than stocks of non-financial firms of the same size and with the same risk exposures. In a bailout-augmented asset pricing model with rare disasters, country characteristics that inform the likelihood of a bailout should predict stock returns. We find greater financial pricing anomalies for the largest banks in developed countries with a highly concentrated and large banking sector and fiscally strong governments, but smaller anomalies in countries with strong corporate governance, government integrity, and property rights as well as high bankruptcy costs. The pricing discrepancy widens in anticipation of large stock market and GDP declines, as the bailout-augmented asset pricing model would predict.

Keywords: Financial crisis, Financial firms, Banking, Government bailouts

JEL Classification: G01, G21, G12

Suggested Citation

Gandhi, Priyank and Lustig, Hanno N. and Plazzi, Alberto, Equity Is Cheap for Large Financial Institutions (January 16, 2019). Swiss Finance Institute Research Paper No. 16-22, Paris December 2016 Finance Meeting EUROFIDAI - AFFI, Available at SSRN: https://ssrn.com/abstract=2747307 or http://dx.doi.org/10.2139/ssrn.2747307

Priyank Gandhi

Rutgers University, New Brunswick ( email )

New Brunswick, NJ
United States

Hanno N. Lustig

Stanford Graduate School of Business ( email )

Stanford GSB
655 Knight Way
Stanford, CA California 94305-6072
United States
3108716532 (Phone)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Alberto Plazzi (Contact Author)

Universita' della Svizzera italiana ( email )

Via Buffi 13
CH-6900 Lugano

HOME PAGE: http://usi.to/mpy

Swiss Finance Institute ( email )

c/o University of Geneva
40, Bd du Pont-d'Arve
CH-1211 Geneva 4

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