Capital Externalities of Systemically Large Banks: Evidence from the Market Value of Smaller Banks

Abstract

The market valuation of non-systemically large banks increases when systemically large banks announce large SEOs. The opposite holds for the announcement of large share buybacks. Two settings show that the importance of systemically large banks’ capital for the valuation of non-systemically large banks extends over the long-term. First, a spillover model shows that the Tobin’s Q of non-systemically large banks decreases after systemically large banks lowered their equity ratio following the 2017 stress test. Second, a granular instrumental variable model estimates a positive relationship between the Tobin’s Q of non-systemically large banks and the systemically large bank equity ratio. Our results support theoretical views that attribute valuation benefits to a bank’s reduced exposure to contagion risk.

Keywords: Bank Capital, Intra-Industry Effects, Contagion, Business Similarities

JEL Classification: G21, G28, G32