The Case for Junk Bonds

by Eric S. Rosengren
May/June 1990

An important financial innovation of the 1980s was the emergence of original-issue junk bonds, securities of below investment grade with high initial yields to maturity. Prior to the 1980s, firms that did not qualify as investment-grade borrowers relied almost exclusively on short-term bank loans for debt financing. Now many such enterprises can obtain long-term financing in national credit markets.

This article shows that junk bonds are a natural extension of the disintermediation occurring in other financial markets. The author argues that regulating junk bonds alone will not prevent highly leveraged transactions. He concludes that further regulation of junk bonds could limit the ability of below-investment-grade firms to raise longterm funds.

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