Heterogeneous Creditors and Covenant-Lite Loans

I propose a theoretical framework in which lenders may suffer repayment preference shocks that encourage early and costly termination of a loan contract. Covenant-lite loans limit the circumstances in which lenders can withdraw or renegotiate credit agreements, and thus insulate lenders from inefficient liquidation arising from shocks to other syndicate members. I find covenant-lite lending is preferred where monitoring is imperfect and the probability that the other lender will suffer a repayment preference shock is higher. However, if the lenders can costlessly trade their loan shares, maintenance covenants reduce the cost of lending relative to covenant-lite contracts