How does a higher Leverage Ratio typically affect lender risk?

A higher Leverage Ratio typically indicates that a borrower is using more debt relative to their equity. This situation can signal increased financial risk to lenders because it suggests that the borrower may have a higher burden of debt to service. When a borrower has a high level of debt, their ability to meet financial obligations may come under strain, especially during economic downturns or less favorable financial conditions.

As debt levels rise, the potential for default also increases if the borrower experiences cash flow problems or if the value of the secured assets declines. The higher leverage indicates that the borrower has less equity to cushion against losses, making them more vulnerable to financial difficulties. In this context, lenders may view higher leverage as an indicator that their investment is riskier, since the borrower may struggle to repay the debt if challenges arise. Therefore, the relationship between leverage and lender risk is such that higher leverage usually means greater risk for lenders.