The Leverage Anomaly in U.S. Bank Stock Returns

28 Pages Posted: 19 Jun 2018 Last revised: 9 Oct 2019

See all articles by Frank Venmans

Frank Venmans

Université de Mons-Hainaut - Microeconomics Department

Date Written: June 4, 2018


The relationship between leverage and returns on US bank stocks between 1973 and 2015 is slightly hump-shaped, almost flat. The observed relationship is not explained by standard risk factors such as correlation with the the market return, book-to-market, size, momentum and term structure of interest rates. As a result, risk-adjusted returns (alphas) of highly leveraged banks are negative. Moreover, the stock returns exhibit a delayed reaction to changes in leverage. Highly leveraged banks that further increase their debt have high abnormal returns on the day of announcement, but tend to have low risk-adjusted returns during the following 6 months. This paper uncovers several explanations for this leverage anomaly. First, investors seem to underestimate the negative effect of leverage on future asset growth. Next, both under-priced default risk and under-priced systematic risk are prominent features of bank stock returns. Finally, government bail-outs decrease risk for large highly leveraged banks.

Keywords: asset pricing anomaly, bank regulation, capital requirements, leverage

JEL Classification: G12, G14, G21

Suggested Citation

Venmans, Frank, The Leverage Anomaly in U.S. Bank Stock Returns (June 4, 2018). Available at SSRN: or

Frank Venmans (Contact Author)

Université de Mons-Hainaut - Microeconomics Department ( email )


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