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Rationales for Risk Management in Banks 91
their concave objective function onto the firm, which may imply a suboptimal
risk-management strategy for the firm and could destroy value. It is,
therefore, very difficult to tell which effect is dominant.
However, from an empirical point of view, concentrated ownership does
not seem to be an issue in European banks. For the sample of ninety European
banks identified and described in Chapter 2, we were able to obtain
ownership data for forty-eight banks. 198 Eliminating group ownership/crossholdings,
we calculated the concentration ratio 199 (CR r
) for the r (with r =
3, 5, 10) largest shareholders in the following way: 200
CR r
=
r
∑
i=
1
xi
x
(3.1)
where x i
= Share of overall firm (market) value held by shareholder
group i
x = Total firm (market) value.
We obtained the following results by binning the outcomes in 5% increments
and plotting them in a cumulative way. The deviation from the straight
line 201 (the line of equally distributed ownership), as depicted in Figure 3.4,
is not too large for any of the three calculated measures, indicating that the
risk preference problem is not the driving factor for why banks conduct risk
management in practice.
The Cost of Stock Price Reaction We will describe the costs of stock price reaction
in detail in the “Cost of Stock Price Reaction” section.
Agency Costs of Debt as a Rationale for Risk Management The agency costs of debt
are costs associated with the conflicts of interests between shareholders and
bond holders. They can be divided into two broad groups: asset substitution
and underinvestment (as represented by the middle part in Figure 3.2) and
will be discussed in this section in turn. Both problems stem from the likelihood
of default by having a firm (partially) financed with debt, which clearly
has a tax benefit. However, these agency costs decrease the value of debt,
and their avoidance through risk management will increase firm value.
198 The sample of forty-eight banks is summarized in a table in the Appendix to this
chapter.
199 Even though other concentration indices would be more appropriate to identify
ownership concentration, the required input data cannot be identified. For a discussion
see Clarke (1985), pp. 13–17.
200 See Clarke (1985), pp. 13+.
201 Note that the overall number of shareholders (n) cannot be obtained from the
chosen data source. It was therefore not our intention to calculate the Ginicoefficient
as, for example, described in Bamberg and Baur (1991), pp. 26–28.