Cheap debt can make an acquisition, expansion or asset purchase appear more affordable while simultaneously encouraging borrowers to take on more leverage than their underlying cash flows can comfortably support.
That does not make low borrowing costs inherently dangerous. Debt can be highly productive when it finances assets or businesses capable of generating sufficient cash flow to service and repay it. The problem arises when the initial financing cost becomes the foundation for decisions whose economics only work under unusually favorable assumptions.
The distinction matters in 2026. The Federal Reserve says overall business and household debt vulnerabilities remain moderate, while debt-servicing capacity is weaker among some non-investment-grade companies and riskier private firms, particularly those relying on floating-rate debt.
The real question is therefore not whether debt is cheap today. It is whether the borrower can support that debt when rates, earnings, asset values and refinancing conditions change.
Why Cheap Debt Changes Borrower Behavior
Lower borrowing costs increase debt capacity.
A company that can comfortably service $100 million of debt at one interest rate may appear capable of supporting substantially more borrowing when its financing cost falls. That can encourage acquisitions, expansion, share repurchases, capital expenditure or purchases of assets whose valuations are supported by inexpensive financing.
The danger is not leverage itself. It is the possibility that financing conditions begin influencing capital allocation more than the underlying economics of the investment.
An acquisition, for example, may appear attractive because the buyer can finance it cheaply. But if the acquired business produces weaker-than-expected cash flow, the debt remains. If refinancing costs subsequently rise, the economics can deteriorate further.
This is why leverage should be evaluated against sustainable cash generation rather than simply against the amount a lender is willing to provide.
The Interest Rate Is Only the Starting Cost
The coupon is the most visible part of debt pricing, but it is not the complete cost of capital.
Borrowers may also face arrangement fees, commitment fees, original-issue discounts, hedging costs, collateral requirements, financial covenants and restrictions on future borrowing or distributions.
Structure matters as well.
A fixed-rate loan provides greater certainty over interest expense during its term. A floating-rate loan transfers changes in the benchmark rate more directly to the borrower. The difference can become material when rates move rapidly.
Maturity is equally important. A five-year loan at an attractive rate is not economically identical to permanent low-cost funding if the borrower has no clear source of repayment at maturity.
The relevant calculation is therefore closer to:
Initial borrowing cost + fees + interest-rate exposure + refinancing cost + restrictions + opportunity cost = economic cost of debt
Cheap debt can still be expensive capital if the financing structure creates significant risks elsewhere.
The Refinancing Problem Hiding Inside Cheap Debt
One of the clearest examples is the maturity wall.
A borrower can lock in a low coupon today and appear financially comfortable for several years. But when that debt matures, the borrower must either repay it from available cash or refinance it under whatever market conditions exist at that time.
That distinction is becoming increasingly relevant in the United States.
Reuters reported in September 2026 that approximately $4.3 trillion of U.S. non-financial corporate debt is scheduled to mature between 2027 and 2031, with annual maturities projected to rise from about $572 billion in 2027 to more than $1 trillion by 2030. Much of that debt was issued during the pandemic-era period of unusually low interest rates.
This does not mean $4.3 trillion is destined to become distressed. Credit quality, cash reserves, maturity extensions, operating performance and market conditions differ significantly between borrowers.
The important point is that refinancing converts yesterday’s financing decision into today’s market price.
PIMCO’s August 2026 analysis similarly found that most U.S. investment-grade and high-yield issuers appeared capable of absorbing higher refinancing costs, while CCC-rated borrowers faced substantially greater pressure. For some CCC-rated debt maturing in 2027 and 2028, PIMCO estimated that refinancing at then-current index yields could potentially double interest costs.
When Leverage Turns a Small Problem Into a Large One
Leverage magnifies both favorable and unfavorable changes.
Consider a company whose operating earnings decline by 10%. An unleveraged business absorbs that decline primarily through lower earnings. A highly leveraged business must still make its contractual interest payments, leaving less cash available for investment, working capital and debt repayment.
This is where interest coverage becomes important.
Interest coverage measures how comfortably operating earnings can cover interest expense. A company with substantial earnings relative to interest expense has more room to absorb volatility. A company operating close to its debt-service threshold has less.
Debt-to-EBITDA provides another perspective by comparing debt with an earnings measure commonly used in credit analysis. Yet neither metric should be considered in isolation.
An investor should also examine free cash flow, capital expenditure requirements, working-capital needs, revenue stability and the quality of the underlying assets.
The Federal Reserve’s 2026 Financial Stability Report illustrates the importance of this differentiation. Aggregate interest coverage for publicly traded firms remained solid, but debt-servicing capacity was weaker among some non-investment-grade firms and riskier private companies, especially those with floating-rate debt and shorter-duration maturities.
Fixed-Rate vs. Floating-Rate Debt
The structure of the borrowing determines how quickly interest-rate changes reach the income statement.
With fixed-rate debt, the contractual interest cost generally remains unchanged until maturity or refinancing. This provides visibility and can protect a borrower from rising benchmark rates during the loan term.
Floating-rate debt behaves differently. Interest expense typically resets according to a benchmark plus a contractual spread.
That structure can benefit borrowers when benchmark rates decline, but it can also transmit higher rates directly into cash expenses.
The distinction is particularly relevant in private credit. DBRS Morningstar reported in September 2026 that private-credit issuers are particularly exposed to higher rates because their debt is predominantly floating-rate. Its analysis found that nearly 70% of the private-credit issuers in its reviewed portfolio had interest-coverage ratios below 2.0x as of June 30, 2026.
That does not mean all private-credit borrowers face the same risk. Borrower quality, covenants, pricing, collateral and cash-flow characteristics vary substantially.
J.P. Morgan Asset Management likewise describes higher rates as a double-edged feature of private credit: floating-rate coupons increase investor income, but the corresponding interest burden falls on borrowers.
What Investors Should Look at Beyond the Coupon
The headline interest rate is useful, but it is only the beginning of a credit analysis.
Investors evaluating a leveraged company should examine:
| Factor | Why it matters |
|---|---|
| Debt-to-EBITDA | Indicates the scale of debt relative to operating earnings |
| Interest coverage | Shows the margin available to service interest |
| Free cash flow | Indicates whether the business actually generates cash after necessary investment |
| Fixed vs. floating debt | Determines sensitivity to benchmark-rate movements |
| Maturity profile | Identifies when large refinancing requirements arrive |
| Covenants | Can provide lenders with protections or impose operating restrictions |
| Collateral | Influences potential recovery if the borrower defaults |
| Cash reserves | Provides a buffer against weaker earnings or refinancing disruption |
| Revenue stability | Determines how resilient debt service may be during downturns |
| Asset duration | Helps assess whether the financing term matches the life of the asset |
The maturity profile deserves particular attention.
A company can have manageable leverage today but still face significant risk if a large percentage of its debt matures within a short period. Conversely, a company with higher leverage may have more time to reduce debt if maturities are well staggered and cash flow is predictable.
Unique Insight: Cheap Debt Can Distort the Price of Risk
The deeper issue is not simply that cheap debt can become expensive.
Cheap debt can change what borrowers are willing to finance.
When financing costs fall, projects with marginal expected returns can suddenly appear viable. Asset buyers may also be willing to pay more because debt service consumes a smaller portion of projected cash flow.
This creates a feedback mechanism:
Low borrowing cost → greater debt capacity → higher leverage → greater sensitivity to rates and cash flow → refinancing pressure → potentially higher lifetime financing cost.
But the reverse can also occur.
Appropriate leverage → productive investment → sufficient cash flow → manageable debt service → controlled refinancing risk.
The difference is the quality of the asset and the resilience of the cash flow supporting the debt.
A company that borrows cheaply to acquire a durable, cash-generating business is making a fundamentally different capital-allocation decision from a company that uses cheap financing to justify an asset whose economics depend on permanently low interest rates.
That distinction is particularly important for private-equity investors and family offices, where acquisition financing can materially influence returns.
The Hidden Cost Is Often the Future Capital Structure
Debt also has an opportunity cost.
A heavily leveraged company may have less capacity to borrow when an attractive acquisition appears later. It may have to sell assets during unfavorable conditions, issue equity when its share price is weak or cut investment to preserve liquidity.
Covenants can create another layer of cost. Restrictions on additional borrowing, distributions, acquisitions or asset sales can limit management’s flexibility precisely when flexibility becomes most valuable.
This is why the cheapest loan is not necessarily the cheapest financing structure.
A slightly more expensive facility with longer maturity, stronger liquidity protection or a better alignment between debt duration and asset life can produce a different risk profile from a lower-coupon loan with significant refinancing exposure.
Conclusion
Cheap debt is neither inherently good nor inherently bad. Its economic value depends on what the borrower does with it, how much leverage it creates and whether the resulting cash flows can support the obligation across different market conditions.
The critical distinction is between the initial cost of borrowing and the lifetime economic cost of debt.
A low coupon can reduce current interest expense while a short maturity, floating-rate structure, restrictive covenant package or excessive leverage creates risks elsewhere.
For investors, entrepreneurs, family offices and corporate executives, the more useful question is therefore not simply, “How cheap is this debt?”
It is:
What happens to the capital structure if rates rise, earnings fall, asset values decline or refinancing becomes more expensive?
The strongest financing decision is one that remains sustainable when the assumptions behind today’s attractive borrowing cost no longer hold.
FAQs
What is cheap debt?
Cheap debt generally refers to borrowing available at a relatively low interest cost compared with prevailing market conditions or the borrower’s alternatives. The term is relative rather than a precise financial classification.
Why can cheap debt become expensive?
Low-cost debt can become expensive if the borrower takes on excessive leverage, relies on floating rates, faces substantial refinancing requirements or uses debt to finance assets that fail to generate expected cash flows.
What is refinancing risk?
Refinancing risk is the possibility that a borrower cannot refinance maturing debt on acceptable terms. Even when refinancing remains available, the new financing may carry a higher interest rate, require more collateral or impose tighter conditions.
How does floating-rate debt increase borrowing risk?
Floating-rate debt generally adjusts with a benchmark interest rate. When that benchmark rises, the borrower’s interest expense can increase, potentially reducing free cash flow and interest coverage.
What should investors examine before evaluating a highly leveraged company?
Investors should consider leverage, interest coverage, free cash flow, debt maturities, fixed versus floating exposure, covenants, collateral, cash reserves, revenue stability and the assumptions underlying future refinancing.
Investment Disclaimer
This article is provided for informational and educational purposes only. It does not constitute investment, financial, lending, accounting or tax advice. Debt structures, refinancing conditions and credit risks vary by borrower, market and transaction. Readers should conduct appropriate independent analysis before making financial decisions.
David Seidman is the Principal of Seidman Law Group LLC, where he serves as outside general counsel for small to mid-sized companies. A seasoned legal advisor and entrepreneur, he specializes in contract negotiation, commercial litigation, and strategic risk management across the hospitality and finance sectors.
