Crazy Loans Are Back, With a Vengeance

Companies paying debt with debt have Fed worried
By Harry Kimball,  Newser Staff
Posted Dec 2, 2009 10:16 AM CST
The Federal Reserve Building on Constitution Avenue in Washington.   (AP Photo)
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(Newser) – The government's efforts to boost lending, to beat the recession, are inadvertently stimulating a return to wildly risky loans that look sound only if you're wearing rose-colored-glasses. Companies are returning to credit-bubble practices, worrying analysts, including those at the Fed. In one instrument, a "covenant lite" loan, credit is given with virtually no restrictions. Another, the “Pik toggle,” allows debt to repaid with—you got it—more debt.

And in a “dividend recap,” a company borrows to pay out promised dividends it should have generated itself. “We have had a huge rally in debt,” a skeptical analyst and former Fed official tells the Financial Times. “Everything needs to be just right for that rally to be validated.” The maintenance of very low short-term interest rates, the central bank concedes, has led to the “possibility of excessive risk-taking.” And that could just create another debt bubble.

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