FINANCIAL INNOVATIONS IN LEVERAGED COMMERCIAL LOAN MARKETS

Christopher L. Culp and Andrea M. P. Neves

Journal of Applied Corporate Finance, 1998, vol. 11, issue 2, 79-94

Abstract: In the last decade, three innovations in commercial loan‐based securities and derivative have enabled institutional investors to access commercial loan markets on leveraged terms: collateralized loan obligations (CLOs); loan‐based total return swaps; and leveraged loan‐based structured notes (LLSNs). These innovations have been driven by a combination of structural changes in the banking industry, enhanced technology for securitizations, reformed banking regulations, and the advent of credit derivatives. Besides providing new investment opportunities for institutional investors, these recent innovations in loan markets also promise to reinforce the existing trend in banking away from financial intermediation and toward information intermediation. Such a trend, the authors argue, is helping to ensure the long‐run viability of commercial banks. By transforming loan assets in the ways described in this article, banks can generate fee income instead of interest income (thus limiting their capital requirements and interest rate and credit exposures) while still exploiting their comparative advantage in credit analysis and monitoring.

Date: 1998
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