What is a syndicate risk?
A syndicate is a group of organisations or individuals in the same industry that pool their resources, so they are able to complete a particular transaction or project. Syndicates are widespread in the trading, banking and insurance sectors for handling large transactions.
But how is syndicate risk explained? The purpose of a syndicate is to spread the risk of losing money across the group so that it is not carried by a single party.
Where have you heard of syndicate risk?
You may have heard of a trading syndicate, which assumes the risk of buying and selling assets on the financial markets. Syndicates also often share the risk of underwriting an initial public offering (IPO) to bring the security to the market and distribute the new share issue.
What do you need to know about syndicate risk?
Syndicates are usually temporary arrangements, unlike partnerships or joint ventures, which often seek to develop a new product or service over time and share assets and revenues. The purpose of a syndicate is primarily to share the risk and returns of a single transaction, for example, a loan to a high-risk party or the financing of a large construction project. This ensures that no single party is burdened with the full debt if a borrower defaults. There are several different types of syndicates, including a trading syndicate, equity syndicate, loan syndicate and insurance syndicate.
A trading syndicate spreads the risk of buying a high-risk security with the aim of generating above-average returns.
An equity syndicate has the task of pricing and selling an IPO and is typically formed if a stock offering is too large for a single firm to manage. The lead underwriter in the syndicate is usually an investment bank that takes primary responsibility for directing the IPO, allocating shares and ensuring the process meets all regulatory requirements.
The parties in the equity syndicate purchase shares from the issuer and sell them on to investors participating in the IPO, generating a profit from the difference between the purchase price and the sale price. The syndicate risk is the possibility that the stock will trade below the purchase price for negative returns.
Similarly in corporate finance, a loan syndicate has a lead underwriter that arranges the loan and coordinates with the other members. Participating in a syndicate allows lenders to manage their credit exposure while providing corporate loans for large capital expenditure projects, mergers and acquisitions and other investments. The largest loan syndicators in the US include Bank of America (BAC), Citibank (C), JP Morgan (JPM) and Wells Fargo (WFC). Learn more about an underwriting contract in our glossary.
An insurance syndicate, in the meantime, aims to minimise the syndicate risk by allocating only a small percentage of risk to each participant. Lloyd’s of London, the world’s oldest insurance marketplace, was formed in the 1680s and operates with groups of syndicates that specialise in specific types of insurance.