Securities Laws and the Choice Between Loans and Bonds for Highly Levered Firms

In contrast to bonds, levered loans do not require SEC registration. We show that this distinction plays an important role in firms’ choice between funding through loans and bonds and helps understand why the market share of cov-lite loans has increased so much. Compared to cov-heavy loans, cov-lite loans are close substitutes for bonds in that they have similar covenants, have tighter bid-ask spreads, have more trading, and are more likely to be used to refinance bonds than cov-heavy loans. SEC-reporting firms that borrow using cov-lite loans are more likely to deregister subsequently. Non-reporting firms are more likely to borrow through highly levered loans than through bonds, even though maturities, amounts, covenants, and ratings are similar between the two sources of funding. As expected from theory, we find that the liquidity advantage of cov-lite loans over cov-heavy loans is highest for non-registered issuers where information asymmetries are greater.