Working Paper: NBER ID: w31635
Authors: Ben S. Meiselman; Stefan Nagel; Amiyatosh Purnanandam
Abstract: In competitive capital markets, risky debt claims that offer high yields in good times have high systematic risk exposure in bad times. We apply this idea to bank risk measurement. We find that banks with high accounting return on equity (ROE) prior to a crisis have higher systematic tail risk exposure during the crisis. Proximate causes of crises differ, but the predictive power of ROE is pervasive, including during the financial crisis of 2007–2010 and the recent crisis triggered by the collapse of Silicon Valley Bank. ROE predicts systematic tail risk much better than conventional measures based on risk-weighted assets.
Keywords: bank risk; return on equity; systematic risk; financial crises
JEL Codes: G20; G30
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| high pre-crisis ROE (G01) | higher systematic tail risk exposure during crisis (G01) |
| high pre-crisis ROE (G01) | poor performance during crises (H12) |
| high pre-crisis ROE (G01) | increased systematic risk exposure during crises (F65) |
| ROE (R50) | predictive power of crisis risk exposure (G01) |
| beta (C46) | performance during crises (H12) |