Fed Flags Potential Vulnerabilities from High Business Debt, Leveraged Lending

Credit standards for leveraged loans continued to deteriorate in recent months, with the share of newly issued large loans to highly leveraged corporations now exceeding peak levels, the Federal Reserve said today in its second report on financial stability. The report—which is published twice a year—examines the resilience of the financial system and highlights potential vulnerabilities.

Despite the marked deterioration of credit standards related to leveraged lending, the performance of these loans has remained solid due in large part to strong economic conditions, the Fed noted. Default rates for leveraged loans fell during this reporting period, moving closer to historic lows.

The report noted that business debt is also nearing a 20-year high, and that—combined with the easing of lending standards and increased risk appetites—could present a potential vulnerability “that potentially increases the downside risk to broader economic activity.” However, the Fed noted that “on the whole, banks appear well positioned to deal with these exposures.” Looking ahead, the Fed also continues to see potential risks from stressed markets overseas, slowing global growth and rising trade tensions.