Tuesday, September 30, 2008

Rising cost of borrowing

The FT looks at the way that the disruption to bank funding costs is increasing the cost of borrowing for large firms.

“The lenders invoked the market disruption clause,” said Edmund Ding, Hon Hai spokesman. “This happened because global interbank lending rates spiked following Lehman’s breakdown just as our loans were being rolled over.” Mr Ding said the uncertainties were likely to force companies to adjust the way they borrow.

Most loan financings carry a “market disruption clause”, which allows lenders to switch the rate at which they lend to a company from a Libor-based price to a level that represents their true cost of funds. Depending on the deal, it requires the approval of at least a third of the syndicate and also requires banks to disclose what they believe their own cost of funding to be – something they have hitherto been reluctant to do.

A potential headache for banks is that many such facilities will have been agreed before the recent worsening in credit conditions at a fixed rate over Libor – a rate that may now be lower than a bank’s all-in cost of funding that facility. Before triggering such clauses banks have to weigh the risk of upsetting clients that may take business elsewhere.

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