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Usage and Exposures at Default of Corporate Credit Lines: An empirical study

by Janet Yinqing Zhao of Moody's Analytics,
Douglas Dwyer of Moody's Analytics, and
Jing Zhang of Moody's Analytics

December 2011

Abstract: A major source of firm funding and liquidity, credit lines can pose significant credit risk to the underwriting banks. Using a unique dataset pooled from multiple U.S. financial institutions, we empirically study the credit line usage of middle market corporate borrowers. We examine to what extent borrowers draw down their credit lines and the characteristics of those firms with high usage. We study how line usage changes with banks' internal ratings, collateral, and commitment size and through various economic cycles. We find that defaulted borrowers draw down more of their lines than non-defaulted borrowers. They also increase their usage when approaching default. Risky borrowers tend to utilize a higher percentage of their credit lines as well. We also find that usage relates to collateral type, commitment size, and banks' internal ratings, which implies banks monitor lines with larger commitment size, no collateral, and poorer internal ratings more closely. Further, we find evidence that both the drawdown amount and commitment amount decrease during economic downturns. Taken together, these results suggest that credit line usage is a function of both borrowers' characteristics and banks' monitoring and control of these lines. Our study is the first to provide large-sample evidence on the credit line usage patterns of both defaulted and non-defaulted middle market borrowers in the U.S. These empirical results have important implications for banks' economic and regulatory capital calculations, as well as for pricing decisions.

JEL Classification: G12, G19, G21, G29, G32, G35, G39.

Keywords: usage, default, default risk, credit lines, exposure, credit risk, expsoure risk, line usage, internal ratings, collateral risk.

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