Describing Bank Equity Returns: The Year-by-Year Record: Note

1. lntroduction The market model of Sharpe [11] is widely embraced by both the professional and academic communities as the premier characterization of the return generating mechanism for common stocks. The present study is focused upon an allegation that appears in the intermediation folklore and literature, namely, that banks' stock returns are produced by a regime different from that of typical listed equities and hence do not subscribe to the market model paradigm. Such a prospect is of critical importance since it impinges upon the equity financing decisions of bankers and supervision of bank capital adequacy by regulators. The conventional wisdom and past empirical investigations are overviewed in section 2. Section 3 includes descriptions of the statistical procedures employed and results of the tests. As a summary of the substantive results, conventional wisdom is for the most part rebutted. The evidence suggests that the market model is consistently a slightly better characterization of bank equity returns than industrials.