Refinancing risk, in banking and finance, is the possibility that a borrower cannot refinance by borrowing to repay existing

debt Debt is an obligation that requires one party, the debtor, to pay money or other agreed-upon value to another party, the creditor. Debt is a deferred payment, or series of payments, which differentiates it from an immediate purchase. The ...

. Many types of commercial lending incorporate

balloon payment A balloon payment mortgage is a mortgage which does not fully amortize over the term of the note, thus leaving a balance due at maturity.Wiedemer, John P, ''Real Estate Finance, 8th Edition'', p 109-110 The final payment is called a ''balloon ...

s at the point of final maturity. Often, the intention or assumption is that the borrower will take out a new loan to pay the existing lenders. A borrower that cannot refinance their existing debt and does not have sufficient funds on hand to pay its lenders may have a

liquidity Liquidity is a concept in economics involving the convertibility of assets and obligations. It can include: * Market liquidity, the ease with which an asset can be sold * Accounting liquidity, the ability to meet cash obligations when due * Liq ...

problem. The borrower may be considered technically

insolvent In accounting, insolvency is the state of being unable to pay the debts, by a person or company ( debtor), at maturity; those in a state of insolvency are said to be ''insolvent''. There are two forms: cash-flow insolvency and balance-sheet in ...

. Even though their assets are greater than their liabilities, they cannot raise the liquid funds to pay their creditors. Insolvency may lead to

bankruptcy Bankruptcy is a legal process through which people or other entities who cannot repay debts to creditors may seek relief from some or all of their debts. In most jurisdictions, bankruptcy is imposed by a court order, often initiated by the debto ...

even if the borrower has a positive

net worth Net worth is the value of all the non-financial and financial assets owned by an individual or institution minus the value of all its outstanding liabilities. Since financial assets minus outstanding liabilities equal net financial assets, net ...

. To repay the debt at maturity, the borrower that cannot refinance may be forced into a

fire sale A fire sale is the sale of goods at extremely discounted prices. The term originated in reference to the sale of goods at a heavy discount due to fire damage. It may or may not be defined as a closeout, the final sale of goods to zero inventor ...

of assets at a low price, including the borrower's own home and productive assets such as factories and plants. Most large corporations and

bank A bank is a financial institution that accepts Deposit account, deposits from the public and creates a demand deposit while simultaneously making loans. Lending activities can be directly performed by the bank or indirectly through capital m ...

s face this risk to some degree, as they may constantly borrow and repay loans. Most commercial banks provide long-term loans and fund this operation by taking shorter-term deposits. In general, refinancing risk is considered to be substantial for banks only during a

financial crisis A financial crisis is any of a broad variety of situations in which some financial assets suddenly lose a large part of their nominal value. In the 19th and early 20th centuries, many financial crises were associated with banking panics, and man ...

, when borrowing funds, such as interbank deposits, may be extremely difficult. Refinancing is also known as "rolling over" debt of various maturities and so refinancing risk may be referred to also as rollover risk.

References

{{Financial risk Banking Credit risk

See also

References