Underwriting and Primary Market Price Discovery of Syndicated Loans: Theory and Evidence
68 Pages Posted: 27 Apr 2018 Last revised: 23 Aug 2021
Date Written: September 10, 2020
Syndicated loan offerings exhibit U-shaped underpricing. We develop a model of loan underwriting that incorporates the lead bank’s loan retention to explain this phenomenon. The bank partially adjusts the offer price for “hot” loans with strong demand, resulting in underpricing to induce investors to reveal positive information. The bank retains “cold” loans with weak demand and underprices them to compensate for its retention cost. In equilibrium, the bank’s retention of cold loans mitigates investors’ false-reporting incentive and in turn reduces the need for hot loan underpricing, which leads to lower overall underpricing. Greater bank capital reduces retention costs and alleviates underpricing. Empirical evidence supports the model.
Keywords: Syndicated loans, Universal banking, Loan underwriting, Underpricing, Bank capital
JEL Classification: G14, G21, G24, G38
Suggested Citation: Suggested Citation