How lenders can scale the refinancing cliff

The world is facing a “refinancing cliff” with businesses paying billions extra a year due to the cost of higher interest rates. It impacts all firms, but poses unique challenges for the financial services businesses who lend to affected companies.

What is the refinancing cliff and how much extra needs to be paid? Read our analysis here

Not only will financial services firms need to navigate the unique way interest rates affect them, they will need to tackle the varied and potentially dramatic effect of higher refinancing costs on their clients, and therefore their business model.

We surveyed 500 CFOs, financial directors, and senior treasurers in the US and UK to uncover how prepared businesses are to grapple with the refinancing cliff.

Do you feel that the market as a whole is prepared for the extra cost of refinancing driven by the recent return to a higher interest rate environment?

How does this higher interest rate economic backdrop compare to other crises you have faced in your career?

How should the financial services sector respond?

Audit your portfolio

Not all sectors FS firms lend to will be affected equally (see table below); some will be hit by higher refinancing costs than others. So when developing or reviewing lending strategies the size of refinancing cliff likely faced by each debtor company needs to be taken into account. Companies in at-risk sectors should be considered for reduction in credit offered – or for greater latitude over payment terms.

*Figures refer to extra costs if all bonds and loans were refinanced based on the predicted interest rate at time of maturity. See methodology.

Be more consultative with your creditors

When Baringa asked industry CFOs about the financial instruments they planned to draw on to navigate the coming crisis, the results were strikingly uniform, indicating that businesses see little nuance between the forms of credit they could use. It is likely that many companies are therefore not making optimal use of each different instrument, and both lender and borrower could benefit from a more consultative relationship over borrowing.

No matter which instrument of the ten instruments we mentioned (anything from fixed rate bonds, to interest rate hedging instruments, to payment-in-kind notes), of the 500 professionals surveyed the proportion who said they would increase use of that instrument was no lower than 56% and no higher than 61%. The proportion of respondents expecting to decrease use of that instrument was no lower than 15% and no higher than 22%.

This indicates a risk that too many debtors are wrongly treating different categories of debt as fungible, and both sides may be missing opportunities to lower risk by better aligning the instrument to the circumstance.

Focus more on interconnecting risks

It’s too easy to focus on individual risks in isolation – but in reality, business is more complicated. Your risk management framework needs to consider the compound effect of various interconnecting risks. For instance, what happens if a client is hit by a large refinancing cost and at the same time there is a related structural shock within their sector? Put simply, focusing on the interconnection between risks isn’t just prudent; it's essential for safeguarding financial stability and resilience.

For more information on how Baringa can help your financial services firm, read our article

Methodology

Refinancing cost data was based on all corporate loans and bonds available via data provider Factset, and was accessed on 1 May 2024. Assumptions about future interest rates used SONIA (UK) and SOFR (US) swap rates as proxies, and Bank of England yield curves. These were accessed on 30 April 2024. Where we refer to “interest rates at 2021”, we have based this on the average interest rate in both the UK and the US for this year.

The survey of CFOs and treasurers was conducted by independent market research consultancy Censuswide. The survey comprised of 250 CFOs, Financial directors, and treasurers working in mid-sized firms and above (500 headcount and £50m turnover minimum) across the UK. It was run online between the 15th and 27nd of March 2024. Censuswide is a member of the British Polling Council and is BHBIA certified, employing members of the Market Research Society which is based on the ESOMAR principles.