Clustering Pricing in the Corporate Loan Market: Theory and Empirical Evidence

Existing theories explaining security price clustering as well as clustering in the retail deposit and mortgage markets are incompatible with the clustering in the corporate loan market. We develop a new behavioral theoretical argument that the attitude of the lender toward the uncertainty about the quality of the borrower leads to the clustering of spreads. More specifically, the degree of pessimism and optimism of the lender toward the uncertainty is the
main reason of the clustering prices in corporate loan market. Our empirical results support these arguments and we find that clustering increases with the degree of uncertainty between the lender and the borrower. In contrast, clustering is less likely when the uncertainty about the quality of the borrower has been reduced through repeated access and through prior interactions of the lender and the borrower.