Bank Equity Premia and the Fed Regulatory Stance

We examine the interplay between the Federal Reserve’s communication on banking regulation and U.S. bank equity returns. Using a comprehensive set of 124 anomaly characteristics, we show that a pro-regulation stance in Fed speeches can largely explain abnormal returns in the cross-section of bank equities, generating daily market corrections of 0.51 per cent. The effects can be attributed to a reduction in risk premia for illiquid bank stocks, and we find no comparable effect among non-banks. These findings highlight the role of regulatory communication as a distinct determinant of banks’ cost of equity.