Martien Jan Peter Lubberink

A Primer on Regulatory Bank Capital Adjustments

To calculate regulatory capital ratios, banks have to apply adjustments to book equity. These regulatory adjustments vary with a bank’s solvency position. Low-solvency banks report values of Tier 1 capital that exceed book equity. They use regulatory adjustments to inflate regulatory solvency ratios such as the Tier 1 leverage ratio and the Tier 1 risk-based capital ratio. In contrast, highly solvent banks report Tier 1 capital that is lower than book equity. These banks adjust their solvency ratios downward for prudential reasons, despite their resilient solvency levels. These results weaken the case for regulatory adjustments. The decreasing relationship between regulatory adjustments and bank solvency reflects the cost of deleveraging, a cost that demonstrates the resistance of banks to substituting equity for debt.

Determinants of Analysts’ Target P/E Multiples

Prior literature suggests that earnings multiple–based valuation methods play a dominant role in practical equity valuation. This study examines how sell-side analysts select the price–earnings multiples for the firms they follow. The authors analyze a sample of P/E multiples applied by analysts of some leading brokerage firms. The results suggest that analysts tend to assign higher P/E multiples to firms with superior earnings growth prospects in the near term and in the longer run, whereas those with high levels of risk measured by financial leverage, earnings volatility, book-to-market, and stock price volatility receive lower P/E multiples.

The Value Relevance of Regulatory Capital Components

This paper examines the value relevance of regulatory bank capital components. Using quarterly U.S. bank data from 2001 to 2015, we empirically examine the value relevance of the following capital components: i) Tier 1 capital, ii) regulatory adjustments, and iii) Tier 2 capital. Our research design relies on multiplicative regression models that mitigate shortcomings of conventional research designs. Our results show that the value relevance of components of bank capital is stable over time, and only diminishes slightly during the global financial crisis. The regulatory adjustments generally have a negative association with market returns. Additional results show that positive adjustments to bank capital, e.g. Tier 1 hybrid capital instruments, are negatively associated with market returns. On the other hand, important deductions from capital (goodwill and intangibles) are positively associated with market returns. The association of Tier 2 capital with market returns becomes strongly negative after the fall of Lehman brothers. These results reveal inconsistencies in the way regulators define regulatory capital.

Earnings Momentum, Adaptation Value and Nonlinearities in the Valuation of Chinese Equity Stocks

We demonstrate that when the variables comprising a firm’s investment opportunity set evolve in terms of a second order system of stochastic differential equations, then the present value of the cash flows the firm expects to earn will be stated in terms of the levels and the momentum of the affected variables. It is also shown that the market value of a firm’s equity is comprised of the present value of the cash flows it expects to earn from operating under its existing investment opportunity set plus the value of the real options the firm possesses to modify or even completely change its existing investment opportunity set. Our empirical analysis shows that earnings momentum and the adaptation and growth options which are typically available to firms all appear to have a significant impact on the prices of stocks traded on the Shanghai Stock Exchange.