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The Banks Cost of Capital: Theories and Empirical Evidence

In: Valuing Banks

Author

Listed:
  • Federico Beltrame

    (University of Udine)

  • Daniele Previtali

    (Luiss Guido Carli University)

Abstract

In this chapter, we discuss the methodologies used for cost of capital estimation in the banking industry. In particular, we first consider the generic treatment of the cost of equity calculation techniques that we divided into those methods quantifying the systematic risk premium and those measuring the total risk premium. The first aim of this chapter is to modify the Hamada (1972) formula excluding deposits value from a banks’ asset beta. Following this approach, we obtain a better measure with which to represent asset risk that is, additionally, independent from bank leverage. The second aim is to discuss the equity pricing methods that enable the quantification of the total risk (such as total beta and the implied cost of capital measures), in particular, adapting the CaRM to the banking industry. In order to better understand the applicability of the models, the chapter provides examples on listed and non-listed banks.

Suggested Citation

  • Federico Beltrame & Daniele Previtali, 2016. "The Banks Cost of Capital: Theories and Empirical Evidence," Palgrave Macmillan Studies in Banking and Financial Institutions, in: Valuing Banks, chapter 5, pages 111-153, Palgrave Macmillan.
    • Handle: RePEc:pal:pmschp:978-1-137-56142-8_5
    DOI: 10.1057/978-1-137-56142-8_5
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