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High-risk companies that tapped the $1.4 trillion U.S. leveraged loan market have been largely insulated from rising short-term rates. Now they’re about to feel the pain.

A key lending benchmark, the three-month U.S. dollar London interbank offered rate (LIBOR), topped 1 percent on Tuesday, the highest since April 2020. That’s above the minimum level many junk-rated borrowers agreed to pay when calculating interest payments on their loans. Until recently, an increase in rates might not have had much real impact on these corporations, but now this expense will likely rise over time for most borrowers.

Increases in these costs could push the weakest loan borrowers to the point where their businesses aren’t generating enough cash to cover all their expenses, known as negative free cash flow, said Steve Hasnain, who invests in leveraged loans at Pinebridge Investments. Many of these companies are already facing pressure from surging commodity and labor costs, he said.

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