Measuring the Cost of Equity of Euro Area Banks

The cost of equity for banks equates to the compensation that market participants demand investing in and holding banks’ equity, has important implications transmission monetary policy financial stability. Notwithstanding its importance, is unobservable therefore needs be estimated. This occasional paper provides estimates listed unlisted euro area using a three-step methodology. In first step, ten different models are second models’ results combined applying an equal-weighting procedure. third costs individual aggregated at level according business models. suggest that, since Great Financial Crisis 2007-08, premia investors compensate them risk they bear when financing been persistently higher than return on (ROE) generated by banks. We show our have plausible relationships fundamentals. tends riskier (higher non-performing loan ratios), less efficient cost-to-income ratio), with more unstable funding sources relative reliance interbank deposits). Finally, we use bank fundamentals estimate general, found somewhat lower compared banks, model characteristics accounting part estimated difference.