Is the Secondary Loan Market Valuable to Borrowers?

31 Pages Posted: 10 Feb 2010

See all articles by Peter J. Nigro

Peter J. Nigro

Bryant University - Department of Finance

João A. C. Santos

Federal Reserve Bank of New York

Multiple version iconThere are 2 versions of this paper

Date Written: February 9, 2010

Abstract

In recent years, the secondary loan market has developed into an over-the-counter market where loans are not only sold but also subsequently traded. This shift away from traditional banking is altering the business of lending. Loan sales are valuable to banks because they free up capital, generate fee-based income and facilitate risk management; but they may be costly to borrowers because they negatively affect bank monitoring incentives. In this paper, however, we argue that there is another potential benefit to borrowers from loan sales. Borrowers with trading loans, in particular those with liquid loans, may “demand” a share of bank benefits from loan sales when they take out new loans as it will be easier for banks to sell these loans afterwards. We investigate this potential benefit of the secondary loan market by comparing the interest rates borrowers pay before their loans start to trade with the interest rates they pay on loans originated post-trading. Our results show that, on average, borrowers pay higher spreads on the loans they take out after the onset of trading on their loans. Importantly, our results also show that borrowers with liquid trading loans are able to borrow at lower interest rates after the onset of trading on their loans. Thus, while the banks decision to sell loans may initially impose a cost on borrowers, those whose loans enter the secondary loan market and become liquid benefit from an interest rate discount on their subsequent loans.

Keywords: Loan spreads, bid-ask spreads, liquidity, secondary loan market

JEL Classification: G21, G34

Suggested Citation

Nigro, Peter J. and Santos, João A. C., Is the Secondary Loan Market Valuable to Borrowers? (February 9, 2010). Quarterly Review of Economics and Finance, Vol. 49, pp. 1410-1428, 2009. Available at SSRN: https://ssrn.com/abstract=1550556

Peter J. Nigro

Bryant University - Department of Finance ( email )

1150 Douglas Pike
Smithfield, RI 02917
United States

João A. C. Santos (Contact Author)

Federal Reserve Bank of New York ( email )

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New York, NY 10045
United States
212-720-5583 (Phone)
212-720-8363 (Fax)

HOME PAGE: HTTP://WWW.NEWYORKFED.ORG/RMAGHOME/ECONOMIST/SANTOS/CONTACT.HTML

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