Rising Concerns Over Systemic Risks in the US Leveraged Loan Market

July 01, 2025 at 04:21 AM EDT

--News Direct--

A new study from the University of Bath has issued a stark warning: systemic risks in the US leveraged loan market are growing, potentially setting the stage for another financial crisis. This concern is amplified by several factors, including an increase in underpriced loans, the prominent role of less-regulated non-bank lenders, and deteriorating loan standards.

Leveraged loans are typically extended to companies with significant existing debt or less robust credit histories, making them inherently riskier. While lenders are compensated with higher interest rates for this elevated risk, recent trends suggest a dangerous imbalance. The University of Bath study, published on June 25, 2025, highlights that highly leveraged loans are increasingly being underpriced, particularly by non-bank lenders who operate with less regulatory oversight than traditional banks.

Default rates on US leveraged loans have already surged, reaching a four-year high of 7.2% in December 2024, according to the Financial Times. Many borrowers are resorting to "distressed exchanges" to avoid outright bankruptcy, a move that reduces investor recoveries and underscores the fragility of the market.

Key contributing factors to the escalating risks include:

Weakening Pricing of Leverage Risk: The study points out a dramatic weakening in how leverage risk is priced since 2014, with the risk premium declining most for the riskiest borrowers. This distortion reflects fundamental structural weaknesses in the post-2014 leveraged lending landscape.
Rise of Non-Bank Lenders: The shift towards non-bank originators for credit has been a significant development. These "shadow lenders" are not subject to the same stringent regulations as traditional banks, leading to concerns about unchecked risk-taking and a lack of transparency. While some states have commercial lending licensing requirements for non-bank lenders, a comprehensive federal framework is absent.
Surge in Securitization (CLOs): The rapid growth in Collateralized Loan Obligation (CLO) issuance plays a crucial role. CLOs package these leveraged loans into securities, which are then sold to investors. While this transfers risk away from the original lenders, it also creates complex, opaque structures where the ultimate investors may lack clear information about the underlying assets. Approximately 70% of the US leveraged loan market is now accounted for by CLOs.
Declining Loan Standards ("Covenant-Lite" Loans): A widespread adoption of "covenant-lite" loans further exacerbates the risk. These loans come with fewer protective clauses for lenders, giving borrowers more flexibility even when their financial health deteriorates. This erosion of loan standards can make it harder for lenders to intervene and mitigate losses in the event of distress.

Regulators have begun to express heightened concern over the rapid growth and increasing interconnections within the private credit market, which largely comprises non-bank lenders and their leveraged loan activities. The sheer size of this market means that any significant disruption could pose a systemic threat to financial stability.

While some past assessments, such as a 2020 GAO report, suggested that leveraged lending did not significantly threaten stability during the COVID-19 pandemic, the current environment with increased underpricing and diminished oversight presents a renewed challenge. The confluence of underpriced risk, unregulated shadow banking, and relaxed lending standards paints a concerning picture for the US leveraged loan market.

The Parallel World of Personal Loans for Bad Credit

While the leveraged loan market deals with corporate debt, a distinct but equally dynamic segment exists for individual consumers with less-than-perfect credit scores: personal loans for bad credit. This market has seen consistent growth, often driven by demand for debt consolidation. As of Q1 2025, nearly half of all personal loan borrowers utilize these funds to consolidate or refinance existing debt, particularly high-interest credit card balances. However, access to these loans comes at a significant cost; while average personal loan rates in June 2025 hover around 12.65%, borrowers with low credit scores face considerably higher Annual Percentage Rates (APRs), often reaching into the triple digits for very low scores. This segment is heavily serviced by online lenders and fintech companies, many of whom employ alternative data and underwriting models to assess risk beyond traditional credit scores, sometimes even offering "no credit check" loans. While these options provide crucial access to credit for those otherwise excluded, they often carry short repayment terms and exceptionally high fees, raising concerns about potential debt traps.

Contact Details

Josh J. Bradley

+1 515-323-4161

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Rising Concerns Over Systemic Risks in the US Leveraged Loan Market

The Parallel World of Personal Loans for Bad Credit

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