Faculty and Research

This paper documents that new loans to large borrowers fell by 47% during the peak period of the financial crisis (fourth quarter of 2008) relative to the prior quarter and by 79% relative to the peak of the credit boom (second quarter of 2007). New lending for real investment (such as working capital and capital expenditures) fell by only 14% in the last quarter of 2008 but contracted nearly as much as new lending for restructuring (LBOs, M&A, share repurchases) relative to the peak of the credit boom. After the failure of Lehman Brothers in September 2008 there was a run by short-term bank creditors, making it difficult for banks to roll over their short-term debt. We document that there was a simultaneous run by borrowers who drew down their credit lines, leading to a spike in commercial and industrial loans reported on bank balance sheets. We examine whether these two stresses on bank liquidity led them to cut lending. In particular, we show that banks cut their lending less if they had better access to deposit financing, and thus they were not as reliant on short-term debt. We also show that banks that were more vulnerable to credit line drawdowns because they co-syndicated more of their credit lines with Lehman Brothers reduced their lending to a greater extent.

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Cyclicality in the supply of business credit has been the focus of a considerable amount of research. This cyclicality can stem from shocks to borrowers' collateral, which affect firms' ability to raise capital if agency and information problems are significant (Ben S. Bernanke and Mark Gertler, 1989). Or it can stem from shocks to bank capital, which affects the supply of bank loans if agency and information problems limit the ability of banks to raise additional capital (Bernanke, 1983). In this paper, we examine cyclicality in the supply of credit in the context of modern forms of banking, often referred to as the "originate-to-distribute" model. In particular, we focus on the role of syndicated lending.
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The paper estimates the cost arising from information asymmetry between the lead bank and members of the lending syndicate. In a lending syndicate, the lead bank retains only a fraction of the loan but acts as the intermediary between the borrower and the syndicate participants. Theory predicts that private information in the hands of the lead bank will cause syndicate participants to demand a higher interest rate and that a large loan ownership by the lead bank should reduce asymmetric information and the related premium. Nevertheless, the estimated OLS relation between the loan spread and the lead bank’s share is positive. This result, however, ignores the fact that we only observe equilibrium outcomes and, therefore, the asymmetric information premium demanded by participants is offset by the diversification premium demanded by the lead bank. Using exogenous shifts in the credit risk of the lead bank’s loan portfolio as an instrument, I measure the asymmetric information effect of the lead’s share on the loan spread and find that it has a large economic cost, accounting for approximately 4 percent of the total cost of credit.
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In this paper, we investigate the disciplining role of banks and bank debt in the market for corporate control. We find that relationship bank lending intensity and bank client network have positive effects on the probability of a borrowing firm becoming a target. This effect is enhanced in cases where the target and acquirer have a relationship with the same bank. Moreover, we utilize an experiment to show that the effects of relationship bank lending intensity on takeover probability are not driven by endogeneity. Finally, we also investigate reasons motivating a bank’s informational role in the market for corporate control.
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Collateralized loan obligations (CLOs) have been an important source of capital for the high-yield corporate loan market. In this paper, we investigate whether securitization was associated with risky lending in the corporate loan market by examining performance of individual loans held by CLOs. We construct a unique dataset that identifies loan holdings for a large set of CLOs and find that adverse selection problems in corporate loan securitizations may be less severe than commonly believed. Controlling for borrowers’ credit quality, securitized loans perform no worse, and under some criteria better, than unsecuritized loans of comparable credit quality. However, within a CLO portfolio, loans originated by the bank that acts as the CLO underwriter underperform the rest of the loan portfolio. Overall, we argue that securitization of corporate loans is fundamentally different from securitization of other assets classes because securitized loans are fractions of syndicated loans. Therefore, mechanisms used to align incentives in a lending syndicate also reduce adverse selection in the selection of CLO collateral.
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Between 2001 and 2007 annual institutional funding in highly leveraged loans jumped from $32 billion to $426 billion, a nearly 70 percent of an overall increase in syndicated corporate loan issuance over the same period, which raises the question: did the increase in institutional funding lead to a contraction of loan spreads? To establish this relationship, we define demand pressure as the duration of time a loan remains unsold. Using market-level and cross-sectional variation in time-on-the-market, we find that a shorter syndication period is associated with a lower final interest rate. Furthermore, we find significant price differences between institutional investors’ tranches and banks’ tranches of the same loans, even though they share the same underlying fundamentals. Increasing demand pressure causes the rate on institutional tranches to fall below the interest rate on bank tranches. Overall, a one standard deviation reduction in average time-on-the-market decreases the interest rate for institutional loans by over 27 basis points per annum. This effect is significantly larger for loan tranches bought by structured investment vehicles (CDOs) but is not fully explained by their role.
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Over the past decade, one of the most important developments in the corporate loan market has been the increasing participation of institutional investors in lending syndicates. As lenders, institutional investors routinely receive private information about borrowers. However, most of these investors also trade in public securities. This leads to a controversial question: do institutional investors use private information received in the loan market to trade in public securities? In this paper, we examine the stock trading of institutional investors that also hold loans in their portfolio. Specifically, we look at the abnormal returns on stock trades following loan renegotiations. By collecting SEC filings of loan amendments, we are able to identify institutional investors that had access to private information disclosed by the borrower during loan renegotiations. Our results indicate that institutional managers that participate in loan renegotiations consequently trade in stock of the same company and outperform other managers by approximately 8.8% in annualized terms in the month following loan renegotiation.

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This paper examines the impact of leveraged buyout firms’ bank relationships on the terms of their syndicated loans. Using a DealScan sample of 1,582 loans financing private equity sponsored leveraged buyouts between 1993 and 2005, we find that bank relationships explain cross-sectional variation in the loan interest rate and covenant structure. Our results indicate that two channels allow leveraged buyouts sponsored by private equity firms to receive favorable loan terms. First, bank relationships formed through repeated transactions reduce inefficiencies from information asymmetry between the lender and the leveraged buyout firm. Second, banks price loans to cross-sell other fee business. These effects are additive. A one standard deviation increase in both bank relationship strength and cross-selling potential is associated with a 16 basis point (5%) decrease in spread and a 0.4 point (7%) increase in the Maximum debt to EBITDA covenant. This translates approximately to a 4 percentage point increase in equity return to the leveraged buyout firm. To the best of our knowledge, this is the first paper to analyze the importance of leveraged buyout firms’ bank relationships and provide evidence for leveraged buyout firms’ favorable leverage terms.

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