Credit Crunch: 4.87 percentage points above Treasuries

The pain has been particularly acute, of course, in housing, where creditors have lost massively and the specter of foreclosure looms over homeowners unable to cover escalating mortgage payments. Nor has the leveraged lending business been spared. The spigot of new commitments has shut tight. The average risk premium on high yield bonds leapt to a recent high of 4.87 percentage points above Treasuries, compared to June's record low of 2.63 percentage points, an almost seismic adjustment for the tortoise-like debt market.

Never before in the history of capital markets has so much money been lent to so many challenged borrowers.

The statistics are indisputable. In 2007 (until the market effectively shut down), more than 32% of new lending was to companies planted on the lowest rungs of the credit ladder, compared to 20.9% in 2006, the previous peak, according to JP Morgan. That brought these borrowers' share of outstanding debt to above 25%, also a new high. Much of that debt was amassed, of course, by private equity buyers, whose average leverage ratios for new deals in 2007 reached 6.6 times cash flow, another record.

So why, given such seemingly incontrovertible worries, have interest rates on junk debt stayed stubbornly low? First, for all the chatter about liquidity crises, vast pools of uninvested capital remain in place in hedge funds and elsewhere, eager for the next "buying opportunity." Even amid the summer ugliness, whenever trading values of outstanding debt appeared about to crumble "value" buyers emerged to prop them back up again. Still more capital is now being raised to invest in this debt, some of it by the very banks whose imprudent practices helped create the problem.