The Cost of Capital for Banks

64 Pages Posted: 16 Apr 2019 Last revised: 31 Dec 2019

See all articles by Jens Dick-Nielsen

Jens Dick-Nielsen

Copenhagen Business School - Department of Finance

Jacob Gyntelberg

Nordea Group; University of Copenhagen - Department of Economics

Christoffer Thimsen

Aarhus University - CREATES

Date Written: December 16, 2019

Abstract

We use analyst earnings forecasts to extract cost of capital measures for banks. Both the cost of equity and debt capital are decreasing in the tier 1 ratio, whereas total cost of capital is independent of the tier 1 ratio. Our findings suggest that investors adjust their expectations in accordance with the conservation of risk principle (Modigliani and Miller, 1958), also around episodes of equity issuances. Extrapolating from our results; a 10 pp increase in the tier 1 ratio is associated with a 2-8 bps increase in customer borrowing rates due to a loss of tax shield. Finally, we find that increased deposits and off-balance sheet liabilities tend to lower total cost of capital.

Keywords: Bank funding, Cost of equity, Total cost of capital, Leverage effect, Capital buffers

JEL Classification: G21, G28, L51

Suggested Citation

Dick-Nielsen, Jens and Gyntelberg, Jacob and Thimsen, Christoffer, The Cost of Capital for Banks (December 16, 2019). Available at SSRN: https://ssrn.com/abstract=3360923 or http://dx.doi.org/10.2139/ssrn.3360923

Jens Dick-Nielsen (Contact Author)

Copenhagen Business School - Department of Finance ( email )

Solbjerg Plads 3
Frederiksberg, DK-2000
Denmark

Jacob Gyntelberg

Nordea Group ( email )

Grønjordsvej 10
Copenhagen, DK - 2300
Denmark

University of Copenhagen - Department of Economics ( email )

Øster Farimagsgade 5, Bygn 26
Copenhagen, 1353
Denmark

Christoffer Thimsen

Aarhus University - CREATES ( email )

Nordre Ringgade 1
Aarhus, 8000
Denmark

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