David Beim

Bank Loan Pricing and the Cost of Equity

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Abstract:
The cost of equity capital is notoriously difficult to estimate on a company-by-company basis. But banks, unlike most companies, hold assets with identifiable returns and reasonably measurable risk. I propose a method to estimate a bank's cost of equity capital from the returns and risks of widely available loan assets. I show that this method yields plausible estimates for a wide range of banks, enabling us to estimate value creation and value destruction in this industry. The results cast doubt on beta-based estimates of cost of equity.

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