One way that an investment bank can win merger and acquisition business is to offer financing to bidders through what are called bank loans.  These are essentially long-term corporate bonds that carry high variable-rate coupons based on libor.   The successful bidding company issues them to the bank to pay for an acquisition.  The bank resells the loans to institutional investors.

There has been strong interest in such loans over the past couple of years for two reasons:  yielding, say libor +4%, they offer high current yields; and, at least in theory, there’s the possibility of rising income as libor increases.  Some of these bonds have the further fillip that the variable (libor) portion can’t go below a fixed amount, say 1%, no matter what the actual libor rate is.

Three-month libor is now approaching 1%, up from as low as 0.2% in 2015.  This benchmark rate is certainly heading higher.

Fro the perspective of holders, one flaw with these bank loans, however, is that they offer little call protection.  What’s now happening on a massive scale is that banks are approaching institutional customers who bought high-yielding bank loans and offering to replace a loan yielding, say,  libor +4% with an equivalent loan from the same borrower yielding libor +3%.

Customers are taking up such deals in droves.  How so?  Technicially, the original loan instruments are being called, meaning the issuer is exercising its right to pay the loans off at par.  The customer can either get his money back in cash–and therefore be forced to find a new place to invest the funds–or accept payment in a new, less lucrative, loan.

The customer has two incentives to take the latter:  the new terms are still attractive; and the borrower will have developed deeper confidence in the issuer through continuing study of company operations and a history of on-time coupon payments.

The real winners here are the banks, who collect another round of fees for providing this service. In all likelihood, this won’t be the last round of repricing, either.