A comprehensive analysis of the decline in the market-to-book ratio of European banks

We analyse a sample of 215 European banks and find that their market-to-book ratio has declined substantially since the GFC. To assess what may account for this, bank-specific and country-specific indicators are used, as well as, for the first time for European banks, ESG variables. We find bank fundamentals, such as ROE and volatility of stock returns to be important determinants of the market-to-book ratio. We also find the valuation of large banks to be penalized more, relative to that of smaller ones. On the country-specific front, we find GDP growth to be significant, as well as the relative size of the banking sector. As far as ESG is concerned, we find different ESG sub-pillars to affect bank valuation differently, more specifically, we find a positive relationship between duality and valuation, particularly for large banks, and a negative one for environmental engagement, the latter being suggestive of the ‘over-investment’ hypothesis. • The market-to-book ratio of European banks has been persistently declining since the Global Financial Crisis. • Return on equity and volatility of stock returns are important determinants of bank valuation, as per the standard theoretical dividend discount model. • The valuation of large banks has been penalized more, relative to that of smaller ones. • ESG sub-pillars affect bank valuation differently. • There are differences in the factors affecting large and smaller bank valuations.