Federal Reserve Board Chairman Paul A. Volcker has urged banks "to be mindful of the potential risks" in financing corporate takeovers, according to a letter released yesterday.
Volcker, in a letter to the House Banking subcommittee on domestic monetary policy, said the Federal Reserve was continuing "to monitor merger activity and to urge banks to maintain prudent lending practices in evaluating merger loans."
"Acquiring firms that take unwarranted risks through leveraging increase the risk exposure of those institutions and other investors that provide the credit," Volcker said in his letter, which was dated March 1.
"Because collateral may be particularly important in merger transactions that involve large amounts of debt, banks have been urged to be mindful of the potential risks," he said.
Federally chartered depository institutions are prohibited from investing in securities that do not carry an investment-grade rating but those same prohibitions do not apply to state-chartered institutions, he said.
"This activity to date likely has been limited, but may be cause for concern if it weakens the balance sheets of the lending institutions involved," he said.
Volcker's letter was released by Del. Walter Fauntroy (D-D.C.), chairman of the subcommittee, which has been hearing testimony on hostile corporate takeover attempts.