Credit expansion and neglected crash risk

Matthew Baron, Wei Xiong

Research output: Contribution to journalArticle

39 Scopus citations

Abstract

By analyzing 20 developed economies over 1920-2012, we find the following evidence of overoptimism and neglect of crash risk by bank equity investors during credit expansions: (i) bank credit expansion predicts increased bank equity crash risk, but despite the elevated crash risk, also predicts lower mean bank equity returns in subsequent one to three years; (ii) conditional on bank credit expansion of a country exceeding a 95th percentile threshold, the predicted excess return for the bank equity index in subsequent three years is -37.3%; and (iii) bank credit expansion is distinct from equity market sentiment captured by dividend yield and yet dividend yield and credit expansion interact with each other to make credit expansion a particularly strong predictor of lower bank equity returns when dividend yield is low.

Original languageEnglish (US)
Pages (from-to)713-764
Number of pages52
JournalQuarterly Journal of Economics
Volume132
Issue number2
DOIs
StatePublished - 2017

All Science Journal Classification (ASJC) codes

  • Economics and Econometrics

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