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Capital ratios and the cross-section of bank stock returns: Evidence from Japan

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  • Chen, Sichong

Abstract

We propose a market-valued capital ratio as an indicator to gauge the riskiness of banks. In particular, we examine the cross-sectional relation between the market-valued capital ratio and stock returns of listed Japanese banks. It is found that banks with lower market-valued capital ratios have had higher returns on average than banks with higher market-valued capital ratios. However, we show that this negative relation between market-valued capital ratio and average stock returns could essentially be attributed to differences in exposure to risk factors. The market-valued capital ratio appears to proxy for sensitivity to common risk factors in bank stock returns. We also relate the cross-sectional variation in market-valued capital ratios to systematic patterns in relative profitability by showing that low market-valued capital ratio signals persistently poor profitability. Finally, we provide evidence to show that the market-valued capital ratio can indeed serve as a strong predictive indicator for bank's share performance during the financial crisis in the late 1990s, even after controlling for a variety of other traditional risk measures.

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  • Chen, Sichong, 2011. "Capital ratios and the cross-section of bank stock returns: Evidence from Japan," Journal of Asian Economics, Elsevier, vol. 22(2), pages 99-114, April.
    • Handle: RePEc:eee:asieco:v:22:y:2011:i:2:p:99-114
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    Cited by:

    1. Huang, Alan Guoming & Sun, Kevin Jialin, 2019. "Equity financing restrictions and the asset growth effect: International vs. Asian evidence," Pacific-Basin Finance Journal, Elsevier, vol. 57(C).
    2. Sichong Chen, 2010. "What Drives The Time‐Series And Cross‐Sectional Variations In Bank Capital Ratios? Evidence From Japan," Pacific Economic Review, Wiley Blackwell, vol. 15(5), pages 743-755, December.
    3. Chowdhury, Biplob & Jeyasreedharan, Nagaratnam, 2019. "An empirical examination of the jump and diffusion aspects of asset pricing: Japanese evidence," Working Papers 2019-02, University of Tasmania, Tasmanian School of Business and Economics.

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