Does Borrowing from Banks Cost More than Borrowing from the Market?

Abstract

This paper investigates the pricing of bank loans relative to capital market debt. The analysis uses a novel sample of loans matched with bond spreads from the same firm on the same date. After accounting for seniority, lenders earn a large premium relative to the bond‐implied credit spread. In a sample of secured term loans to noninvestment‐grade firms, the average premium is 140 to 170 bps or about half of the all‐in‐drawn spread. This is the first direct evidence of firms' willingness to pay for bank credit and raises questions about the nature of competition in the loan market.

Global corporate debt during crises: Implications of switching borrowing across markets

“…This research builds on the idea that bond debt is more difficult to restructure than bank loans when firms are in financial distress. The dispersion of bond investors reduces their incentives to renegotiate debt payments relative to banks, which can monitor firms more closely and offer greater financial flexibility than bondholders (Bolton and Scharfstein, 1996;Chemmanur and Fulghieri, 1994;Bolton and Freixas, 2000;Hackbarth et al, 2007;Roberts and Sufi, 2009;Schwert, 2020). Theoretical models predict that some firms substitute bonds for loans during bank credit supply contractions, but when doing so they reduce the volume of debt issued relative to pre-crisis levels as a precautionary response to the increase in financial fragility associated with the higher share of bond financing (Crouzet, 2018).…”

Corporate Bonds and Product Market Competition

“…Another key difference between bank loans and bonds is that loans are senior in bankruptcy. Duffie and Singleton (1999) show that the expected loss given default for bonds is three times higher than the expected loss given default for loans, whereas Schwert (2019) finds that the average recovery rate for bank loans is 80% and the average recovery rate for bonds is 40%. Banks have incentive to restructure debt to ensure they get paid back.…”

A Theory of Zombie Lending

“…This assumption implies that market financing is cheaper than bank financing. We define the value of the project to the market as The assumption captures the realistic feature that banks have a higher cost of capital than the market, which can be justified by either regulatory requirements or the skin in the game needed to monitor borrowers (see Holmstrom and Tirole (1997); see also Schwert (2020) for recent empirical evidence). As we clarify shortly, the maturity of the public debt does not matter.…”