Trying to regulate Wall Street must feel a lot like playing a game of Whac-a-Mole. By the time officials get around to monitoring risky practices, the greater threat has already moved someplace else.
That’s what seems to be happening with the $800 billion market for U.S. leveraged loans. Federal regulators are intensifying their scrutiny of this debt now, Bloomberg News reported, at a time when investors are already pushing back against overly speculative structures and are withdrawing cash from loans in general.
Leveraged-loan mutual funds have received steady withdrawals in 2015, losing 11 percent of their assets under management so far this year, according to data compiled by Wells Fargo. Big banks are suddenly getting stuck with commitments to finance acquisitions for companies that are struggling to raise cash in corporate-debt markets. Loans have declined 0.8 percent in November.
Wall Street banks that committed to finance more speculative transactions are already being punished by the market. And the pain is probably just beginning. Companies are hoping to raise billions of dollars to pay for takeovers and mergers in the next few months. If they can’t get those deals done, banks can expect some hefty losses.
So regulators are kind of late to the game with their accelerated inquiries into this market. They’re doing so after completing an annual audit of corporate lending, which has led to additional reviews of lending practices at JPMorgan Chase, Deutsche Bank, Credit Suisse Group and Canada’s Toronto-Dominion, according to Bloomberg’s Sridhar Natarajan.
It seems as if this market is actually starting to regulate itself. Investors are demonstrating a good deal of discretion over what they’re willing to buy, and a growing number of companies are being forced into distressed-debt exchanges or restructurings. The Great Releveraging cycle among high-yield companies seems to be moderating.
Regulators have good intentions. They don’t want to be on the hook for another crisis tied to loose lending practices, akin to the 2008 credit seizure stemming from toxic mortgage loans. But the next crisis will be different from previous ones. And risk is constantly migrating to darker corners where it won’t be seen as well.
Instead of taking a magnifying glass to leveraged lending right now, regulators would probably be better off spending their time on other pursuits. Perhaps they should look a little more closely at central clearinghouses, or how and if odd price moves in debt markets could potentially pose a systemic risk. Or they should examine the investing practices of big funds that are part of a growing shadow banking system that’s overtaking activities once dominated by big banks.
There’s plenty for regulators to do without looking backward at a market that's already self-correcting. The risk has already moved elsewhere.
This column does not necessarily reflect the opinion of Bloomberg LP and its owners.
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