Savior or Villain? The Debt-Market Effects of Foreign Institutional Ownership

Abstract

This paper examines the impact of foreign institutional ownership on debt contracting. Using a sample of international syndicated loans extended to non-U.S. borrowers, we find that lenders demand more debt covenants when borrowers have a higher proportion of equity held by U.S. foreign institutions, especially those with a short investment horizon. These findings are more pronounced in countries with weaker creditor rights, where lenders rely more on contract-level protection. We find corroborating results using the U.S. Jobs and Growth Tax Relief Reconciliation Act as an exogenous shock to U.S. institutional ownership. These findings suggest that lenders view U.S. foreign shareholders as exacerbating expropriation risk. Further analysis suggests that expropriation arises from borrowers’ risk-taking and covenants are effective at reducing such risk. Lastly, we find that U.S. institutions are more likely to participate in loans to borrowers with higher U.S. institutional ownership and their participation mitigates lenders’ concern for expropriation.