Bank of England flags concerns over risky leveraged loan market

The Bank of England has expressed concern about the rapid growth of riskier leveraged lending, comparing it to the rise of the US subprime market which ultimately devastated the global economy.

At the latest meeting of the Bank’s Financial Policy Committee on 3 October – minutes of which were published on Wednesday – members, who include Governor Mark Carney, reviewed the current risks to the UK corporate sector.

The committee found that a record £38bn in leveraged loans had been issued by UK non-financial companies in 2017, with a further £30bn already issued this year.

Leveraged loans allow borrowers to take on even more debt. As a result, they carry a higher risk for lenders but also potentially higher returns.

The minutes noted: “The committee was concerned about the rapid growth of leverage lending. In common with the US and Europe, high investor demand has driven strong growth in the UK leveraged loans.

“Taking high-yield bonds and leveraged loans together, the estimated stock of debt outstanding in UK non-investment grade firms was now estimated to account for about 20% of total corporate sector debt.”

In the US, the stock of leveraged loans – which the FPC said where typically loans to firms who had a non-investment grade rating and were highly indebted, or were owned by a private equity sponsor – now exceeded $1trn. Total US corporate debt stood at around $8trn.

The minutes continued: “The committee discussed the extent to which the growth in leveraged loans had parallels to growth in the US subprime mortgage market before the crisis. The global leveraged loan market was larger than – and was growing as quickly as – the US subprime mortgage market had been in 2006.”

The committee conceded, however, there were “important differences” between the two markets.

In the UK, the FPC will now make a fuller assessment of the leveraged lending market. Implications for banks will be assessed the 2018 stress test, while the committee said would review “how the increasing role of non-bank lenders and changes to the distribution of corporate debt could pose risks to financial stability”.

The FPC, which was set up to assess potential risks to the UK financial system, said earlier in October that the City faced “costly” disruption from Brexit if action wasn’t taken urgently by authorities. It also first raised its concerns about leveraged financing.