Desperate banks ditch loans at 10% discount

Citigroup, Goldman Sachs, Morgan Stanley and JP Morgan Chase are slashing 10% off the face value of the loans in the hope of shifting a vast, $231 billion (£116 billion) logjam. That means that the banks would sell on a loan of, say, £100 million, for just £90 million.

The desperate discounts come as the the lenders suffer from a complete freeze-up of the market for so-called leveraged debt - the loans used by private-equity companies to finance their takeovers.

There were a record $438 billion of leveraged takeovers conducted during the year thanks to financing from the banking giants.

In the UK, the takeover of chemists chain AllianceBoots has left KKR's banking backers unable to offload their £8 billion of debt.

They gave up on shifting the debt in the autumn as the credit crunch started to bite hard.

The problem is worse in the US, where many more such megadeals were conducted.

However, Wall Street banks are set to start the New Year with a concerted effort to shift their loans and have instructed their London-based European divisions to do the same.

"The market can absorb all of these deals," said John Eydenberg, head of the Americas division at Deutsche Bank. "It is a question of time and price."

Lenders have already been partially successful in shifting the debt by offering big discounts in the market. Since July, the overhang has reduced by nearly a third, according to Bloomberg data.

However, that still leaves them with huge, unwanted and unsyndicated debts on their balance sheets.

The big banks have already written down many billions of dollars because of the reduced value of those loans, and much bigger write-offs are expected to follow.

Banks admit that they were foolhardy in their lending to takeover specialists earlier in the year. Debt was offered far too cheaply to fund deals which, by their very nature, were risky.

The extra interest payments that were demanded for risky bonds issued to fund takeovers in June narrowed to just 2.4% compared with government-issued debt. That simply did not reflect the nature of the underlying risk.

Now, the opposite is true, as banks refuse to take on any such debt unless it is priced extremely high. There is now a 5.64% premium for such loans.

KKR, Blackstone and other big buyout houses carried out the biggest private equity deals ever in the first half of the year, thanks to the cheapness of debt. Now such big takeovers have all but dried up.

Leveraged buyouts have declined to a total value of $101.9 billion in the second half of the year compared with an aggregate $336 billion in the first six months of 2007.