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 relies on a novel sample of syndicated loans matched with bond spreads from the same firm on the same date. After accounting for seniority, banks earn an economically large premium relative to the market price of credit risk. To quantify the premium, I apply credit pricing models that adjust bond spreads for priority and produce estimates of how the market would value loan cash flows. In a sample of secured term loans to non-investment-grade firms, the average loan 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 the qualities of bank loans and raises questions about the nature of competition in the loan market.

Keywords: credit spreads, syndicated loans, corporate bonds, banking

JEL Classification: G12, G21, G32