Another shoe is dropping in the ongoing credit collapse here in this nation of whiners. According to the New York Times, the default rate on so-called Leveraged Loans -- (a very strange name if you ask me since a loan is leverage) that refers to loans used to finance corporate takeovers -- climbed fast from 0.24% in August 2007 to 3.3% in August 2008.

The loans that have gone bad so far are not big ones -- they are more like the canary in the coal mine -- hinting at bigger problems to come. The Times says, "the loans that have gone bad have been concentrated in two industries - real estate and auto parts. S.& P. calculates that they have accounted for almost half of this year's defaults. Gambling has also had problems, as it turns out that there are too many casinos in some places."

The biggest loans have yet to default. But their collapse is inevitable. That's because banks are scrambling to raise capital and shore up their balance sheets. And the leveraged loans were structured to benefit from a lending market in which the name of the game was to keep from losing market share by making it ever easier to borrow. Thus the terms of leveraged loans were easy -- featuring, as the Times reported, a "flood of 'covenant-lite' and 'toggle-[Payment in Kind] PIK' loans."

Of course, the subprime crisis is a key element of the credit crunch. But there has also been another force: the huge build up of leveraged loans for mega buyouts.

Well, with the help of sovereign wealth funds -- and even some private equity firms, like TPG -- the subprime problem appears to be improving. And, interestingly enough, it looks like banks are also effectively dealing with the leverage loan overhang. This according to a piece in FinancialNews.com.

Basically, the backlog is now at $91 billion (which is a drop of nearly 60% so far this year). But we are already seeing signs that banks are opening up to new loans, such as with Basell's buyout of Lyondell Chemical Company. The major banks need the deal flow from private equity firms because of the juicy fees. So it's no surprise that we've seen a lot of action in getting things moving again.

Tom Taulli is the author of various books, including The Complete M&A Handbook and The Edgar Online Guide to Decoding Financial Statements. He also operates MergerBook.com.

MAJOR PAPERS:

• Wendy's International Inc (NYSE: WEN), struggling since the 2002 death of founder Dave Thomas, and pressed by investor Nelson Peltz to improve results, will today announce a deal with Peltz, the Wall Street Journal reported.
• The Wall Street Journal also reported that the House Financial Services Committee voted to approve $15B in loans and grants so that local governments can buy foreclosed homes throughout the U.S. Committee chairman Barney Frank said the bill will avoid abuse, including requiring that purchased homes be a minimum 60 days into the process.
• Adding to evidence of a rally in corporate credit markets, the Financial Times reported that Deutsche Bank AG (NYSE: DB) is preparing another big sell-off of its leveraged loans in Europe.

• Several e-mails that have been obtained by the New York Post sent between Wall Street banks may prove a serious setback in the fight over the takeover Clear Channel Communications Inc (NYSE: CCU). The e-mails reportedly show the banks, led by Citigroup Incorporated (NYSE: C) and Deutsche Bank, looking to get out of financing the buyout by Bain Capital and THL Partners by offering terms "they know the [firms] won't be able to accept."

Citigroup (NYSE: C) believes that it has too many leveraged loans on its balance sheet, so it may sell them to KKR at a discount. According to the FT, "banks have been looking for ways to help clear some of the $300bn worth of leveraged loan commitments they have made." The amount of money being raised to buy problem bank loans could be as much as $170 billion.

Citi provided financing for a number of deals put together by KKR and its peers. Will it now lend them money to buy them at a discount off the big bank's own balance sheet? It sounds like a round trip.

While regulators and investors in the large money center banks would like to see their balance sheets improved, there is some irony in the idea that these banks might help fund entities that could purchase the byproducts of their lending mistakes. Investors should hope that regulators keep a keen eye on the practice so that the banks are not accused of trying to sweep their problems under a rug that they are helping companies like KKR finance.

Douglas A. McIntyre is a partner at 24/7 Wall St.

A recent piece in Bloomberg.com talks about an interesting driver in the private equity market: leveraged loans.

Traditionally, it was junk bonds that provided high returns to investors. However, with extremely liquid markets, the returns have been fairly thin lately.

But, leveraged loans offer investors an alternative. These are loans that banks syndicate to a variety of investors. Some of the big players include JPMorgan Chase & Co. (NYSE:JPM) and Bank of America (NYSE:BAC).

What are the advantages? First of all, a leveraged loan is secured by a company's assets. Also, the yield on the loan is usually attractive (especially when compared to junk bonds, when adjusted for risk).

But, there are some caveats. For example, leveraged loans typically have fewer restrictions on the borrower. That is, a borrower might be able to pile on more debt. No doubt, this could increase the chance of default.

Ironically enough, it's private equity firms like KKR and Carlyle that are setting up funds for leveraged funds.

Tom Taulli is the author of various books, including the Complete M&A Handbook and operates DealProfiles.com.