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Breakingviews: The joy of distress

Source: www.breakingviews.com is Europe's leading financial commentary service.

Distressed debt has gone mainstream. Since the second quarter of this year, commercial banks have been offloading unsafe loans at an accelerating pace. The loans have found their way into the hands of institutional investors and pension funds, not just hedge funds or vulture investors. The upshot has been a lucrative boom in distressed debt trading for a handful of investment banks.

According to one head of a distressed debt trading operation, his bank expects to make three times as much revenue from trading distressed debt this year as in 2002. The main reason for the surge is banks' new-found willingness to crystallize losses on bad loans, rather than cling on while the likely loss ticks up.

Regulatory pressures This is not to say that banks are becoming more rational and cutting their losses. They are selling because regulators are forcing them to clean up their portfolios. It only takes one member of a loan syndicate to sell its exposure for the others to be galvanized into action. After all, when a corporate loan in default starts trading as a security with its own value, the loss being concealed by the original lender ceases to be a secret.

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