An empirical investigation of U.S. bank risk and the Mexican peso crisis

This paper examines two pairs of hypotheses about the effect of the Mexican Peso crisis on U.S. bank stock returns. We use a three-index market model as our empirical methodology because bank stocks are influenced more by both interest rate risk and foreign exchange risk than other non-banking stocks. The results show that the market reacted to each event promptly, supporting semi-strong market efficiency. To find out whether these effects created a domino effect in the U.S. banking system, a set of cross-sectional regressions were run. In general, the empirical results support the investor-contagion hypothesis, which indicates that the market penalized or rewarded banks without regard to their ecposure to the market for Mexican loans.