Loan Spreads and Credit Cycles: The Role of Lenders' Personal Economic Experiences

67 Pages Posted: 24 Jun 2019 Last revised: 19 Mar 2020

See all articles by Daniel R. Carvalho

Daniel R. Carvalho

Indiana University - Kelley School of Business

Janet Gao

Indiana University - Kelley School of Business

Pengfei Ma

Indiana University - Kelley School of Business

Date Written: March 27, 2020

Abstract

Credit spreads significantly change across the credit cycle and many have argued that excessive fluctuations in lender optimism help amplify these patterns. We analyze the role of lenders’ personal economic experiences as a mechanism driving such effects between the credit boom in the 2000s and the aftermath of the subsequent financial crisis. Using unique data on the real estate properties of loan officers originating large corporate loans, we provide evidence that lenders overweight their recent personal experiences and this systematically shapes loan spreads. We capture personal experiences using local housing price growth around officers’ properties, and find that higher recent growth in these areas is associated with significant reductions in credit spreads that disproportionately affect riskier loans. Our identification strategy exploits variation in lender recent local experiences within a same state and time across officers that extend loans to non-local borrowers. We also rely on changes over time on the pricing of loans by a same officer and the precise timing of officers’ local experiences to identify these effects. Overall, our evidence suggests that recent personal experiences matter by shaping lenders’ beliefs about borrower asset prices. We estimate that these lender experience effects lead to a recency bias in loan pricing that can significantly amplify aggregate movements in credit spreads.

Keywords: Credit Spreads, Credit Cycles, Lender Optimism, Personal Experiences

JEL Classification: G20, G02, G21

Suggested Citation

Carvalho, Daniel R. and Gao, Janet and Ma, Pengfei, Loan Spreads and Credit Cycles: The Role of Lenders' Personal Economic Experiences (March 27, 2020). Kelley School of Business Research Paper No. 19-30, Available at SSRN: https://ssrn.com/abstract=3404368 or http://dx.doi.org/10.2139/ssrn.3404368

Daniel R. Carvalho (Contact Author)

Indiana University - Kelley School of Business ( email )

Bloomington, IN 47405
United States

Janet Gao

Indiana University - Kelley School of Business ( email )

1309 East Tenth Street
Indianapolis, IN 47405-1701
United States

Pengfei Ma

Indiana University - Kelley School of Business ( email )

Bloomington, IN 47405
United States

HOME PAGE: http://sites.google.com/view/pengfei

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