Do banks price their informational monopoly?

Abstract

Modern corporate finance theory argues that although bank monitoring is beneficial to borrowers, it also allows banks banks to use the private information they gain through monitoring to "hold-up" borrowers for higher interest rates. In this paper, we seek empirical evidence for this information hold-up cost. Since new information about a firm's creditworthiness is revealed at the time of its first issue in the public bond market, it follows that after firms undertake their bond IPO, banks with an exploitable information advantage will be forced to adjust their loan interest rates downwards, particularly for firms that are revealed to be safe. Our findings show that firms are able to borrow from banks at lower interest rates after they issue for the first time in the public bond market and that the magnitude of these savings is larger for safer firms. We further find that among safe firms, those that get their first credit rating at the time of their bond IPO benefit from larger interest rate savings than those that already had a credit rating when they entered the bond market. Since more information is revealed at the time of the bond IPO on the former firms and since this information will increase competition from uninformed banks, these findings provide support for the hypothesis that banks price their informational monopoly. Finally, we find that while entering the public bond market may reduce these informational rents, it is costly to firms because they have to pay higher underwriting costs on their IPO bonds. Moreover, IPO bonds are subject to more underpricing than subsequent bonds when they first trade in the secondary bond market.

Changing Bank Income Structure: Evidence from Large UK Banks?

“…This was backed by a strong growth in income from insurance broking, card services and other short term investment. The interest income comparatively is showing a stable trend over the period however, as Hale and Santos (2009) argued the noninterest income is more stable than interest income and fee based activities reduce bank risk via diversification. The increase in noninterest income is also due to increased bank investment on other financial instruments rather than just making loan to customers.…”

“…Further, ISSN 1946-052X 2014 researchers Kwast (1989), Mishkin (1999, Chow and Surti, (2011) and Hale and Santos (2009) argued that the shift from traditional banking to non-traditional banking where banks borrow short, lend long and hold on to loans as an investment has been reshaped by increased competition and innovation after the deregulation of banking in 1986. Deregulation which aimed to increase competition and profitability of banks dramatically changed characteristics of the bank balance sheet, from the types of assets bank hold to how they fund themselves to the source of bank income.…”

“…Further, Lepetit et al, (2007) indicated that as a result of deregulation and the adoption of universal banking principles commercial banks can compete on a wider range of market segments. Additionally, Hale and Santos (2009) are of the view that banks no longer hold the loans they generate and originate as investment but sell these loans to brokers to get liquidity and increased fee income. However, these in turn pool banks to issue securities which are distributed to a range of investors with a different set of risk characteristics.…”

The transformation of banking: Tying loan interest rates to borrowers' CDS spreads

“…More profitable firms as well as firms with higher interest coverage ratios have a greater cushion for servicing debt; therefore they should pay lower spreads on their loans. LEV ERAGE is the firm's leverage ratio (total liabilities divided by total assets); higher leverage usually translates into a greater likelihood of default, 11 See Santos and Winton (2008), Hale andSantos (2011) for studies of loan interest rates.…”

The impact of the EU takeover directive on takeover performance and empire building

“…This helps to ensure that the control sample and the treatment sample are similar. This approach is similar in nature to radius matching (see Becker and Ichino, 2002;Glick et al, 2006;Hale and Santos, 2009;Volpe Martincus and Carballo, 2008). This reduces the sample to 16,768 observations.…”