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Reputation and monitoring ability in loan syndications *

Hua Jessie Zhang** September 24th, 2003

* JEL classification: G21. Key words: Loan syndication, asymmetric information. The author would like to thank her supervisor, Professor Gordon S. Roberts, for his support and advice. The author also would like to thank Kin Chung Lo, Kamphol Panyagometh, Jonathan Yan, Matthew Bowler as well as Stephen Sapp for their helpful comments and suggestions. All errors are the responsibility of the author. ** Ph.D. Candidate, Schulich School of Business, Finance Area, York University, 4700 Keele Street, Toronto, Ontario, Canada, M3J 1P3. Phone: 416-736-2100 Ext: 20635. Email:

Reputation and monitoring ability in loan syndications

Abstract Syndicated loans are an increasingly important financial instrument, occupying 40% of the US corporate finance market today. Employing a combination of modeling and empirical testing, we provide and confirm the mechanics of how information about the true motive and monitoring ability of lead banks is updated from a market perspective through a sequence of loan syndication decisions. A repeated Bayesian game model with incomplete information for syndicate members is constructed followed by empirical tests to support the model. Further, lead banks are divided into two groups: “active” and “drop-out” groups. Advancing upon previous study, we propose that the actions of the “active” group should be consistent with the reputation hypothesis, while those of the “drop-out” group could be motivated by either the exploitation effect or the overconfidence effect. Two testable hypotheses to discriminate between the two effects are proposed. The empirical results of this study confirm that the actions of the “active” group are consistent with the reputation hypothesis and those of the “drop-out” group are consistent with the overconfidence hypothesis.


Reputation and monitoring ability in loan syndications