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Risk Hedging and Loan Covenants

Author

Listed:
  • Ilona Babenko

    (Finance Department, W. P. Carey School of Business, Arizona State University Tempe, Arizona 85287)

  • Hendrik Bessembinder

    (Finance Department, W. P. Carey School of Business, Arizona State University Tempe, Arizona 85287)

  • Yuri Tserlukevich

    (Finance Department, W. P. Carey School of Business, Arizona State University Tempe, Arizona 85287)

Abstract

We study lending agreements and derivative positions of U.S. oil and gas producers, showing that loan covenants are important determinants of hedging policies. Hedging covenants appear in more than 85% of sample loan agreements, with explicit minimum hedging requirements in more than half. Covenants are more common when expected default costs are larger. The well-documented positive relation between borrowing and hedging is largely attributable in our sample to binding covenants, as the relation is much weaker in their absence. These results suggest that understanding firms’ hedging choices requires the consideration of lender interests along with those of owners and managers.

Suggested Citation

  • Ilona Babenko & Hendrik Bessembinder & Yuri Tserlukevich, 2024. "Risk Hedging and Loan Covenants," Management Science, INFORMS, vol. 70(11), pages 8067-8095, November.
    • Handle: RePEc:inm:ormnsc:v:70:y:2024:i:11:p:8067-8095
    DOI: 10.1287/mnsc.2022.01616
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