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Publicly-held debt has grown substantially as an important source of external financing for corporations over the last 25 years. In 1991, non-financial corporations in developed countries issued 440m US Dollars worth of corporate bonds, 210m worth of syndicated loans, and 170m worth of equity. By 2014, they were raising 1.2 trillion US Dollars worth of corporate bonds, 3.3 trillion dollars worth of syndicated loans, but only about 410m worth of equity (Cortina-Lorente, Didier, and Schmukler 2016). This expansion in the relative importance of debt issuance (and in particular in syndicated loan issuance) was made possible through an influx of institutional investors; while in the early 1990s, most debt was originated and then held on bank balance sheets, nowadays, most debt is originated by banks but then distributed to institutional investors.

Many institutional investors require the ability to trade in secondary markets. As a consequence, the rise in debt financing was accompanied by a substantial expansion in secondary market activity for debt instruments (For instance, the Loan Syndications and Trading Association reports that trading volume in syndicated loans increased from 8 billion US Dollars in 1991 to 517 billion US Dollars in 2013). The project has investigated how the need of investors to trade in secondary markets ultimately shapes the debt instruments with which firms finance themselves, has documented the changing role of banks in debt origination, and how this changing role produces new risks for banks. Specifically, the paper “Debt Maturity and the Liquidity of Secondary Markets” (forthcoming in the Journal of Financial Economics) shows how a lack of liquidity in the secondary market can induce corporations to choose maturities that are inefficiently short, and the paper “Pipeline Risk in Leveraged Loan Syndications” documents that the main function of the banks that arrange syndicated loans is one of demand discovery. That is, they need to find out how much institutional investors are willing to pay, in order to place the loan on the best possible terms for the borrower. Demand discovery implies that banks sometimes have to retain more of the debt than they intended when investors indicate a low willingness to pay. Empirical results indicate that when such “unfortunate” retention happens, the affected banks subsequently reduce their arranging and lending activities by statistically and economically significant amounts. This means that the “unfortunate” retention can have adverse consequences for the supply of credit. Overall, the results have implications for the regulation of maturity choice, such as is taking place e.g. under the Net Stable Funding Ratio of the Basel III accord, or the regulation of syndicated lending, such as the relevant guidance already in place in the US and the guidance currently being considered by the ECB.

About the researcher: Max Bruche commenced work on this project after moving from the Center for Monetary and Financial Studies (CEMFI) in Madrid, Spain, to Cass Business School, London, where he was employed first as a Senior Lecturer, and now as an Associate Professor (Reader) in Finance. In the course of this project, he has collaborated formally with Frédéric Malherbe (London Business School), Ralf Meisenzahl (Board of Governors of the Federal Reserve System), and Anatoli Segura (Banca d’Italia) as co-authors. He has collaborated informally with many other researchers in the European Union and abroad.