Why do lenders dislike early loan repayments? I've frequently seen references in blogs and articles about how banks and other lending agencies like to refer to people who repay loans on an accelerated schedule as "deadbeats", because they get less interest out of that person.  Some institutions even implement early-repayment penalties in debt contracts, a practice that's been outlawed in some places.

But when I think about it, this doesn't make a lick of sense.  It seems to me that creditors should regard these "deadbeats" as their very best friends:


The lender gets their principal back ahead of schedule, improving their liquidity and making them able to loan it out again more quickly, should they wish to.
By reducing the principal outstanding, the amount at risk in the event of a default is reduced.
By demonstrating that the borrower has the ability to pay beyond the minimum, the risk of default is reduced.


What's not to like?
The reason that lenders dislike early repayments (known as "prepayments" or "voluntary prepayments") is that most lenders match their assets— the loans they've made to others— with liabilities of their own. This can lead to lenders facing significant interest rate risk. This is important to understand— while default risk is certainly significant, interest rate risk can be very large as well, sometimes greater than default risk.

Consider: a lender loans you money at 6.5% for 30 years to take out a mortgage, and funds this by issuing debt in the secondary market for 10 years at 4%. A recession comes along, the Fed drastically cuts interest rates, and the prevailing interest rate for mortgages drops to 3.5%. You repay your mortgage early by taking out a loan from another lender at 3.5%, and now the original lender has the principal back, but cannot reinvest it at a rate high enough to repay its own interest rate expense. If this happens on a broad enough scale, the lender is now bankrupt, with all that entails. That is why they don't like it.

With regard to prepayment penalties— the option to prepay debt is what is known as a call option, and it's often quite valuable. Prepayment penalties are simply a way for lenders to be compensated for the exercise of that option.

The specific case that you're talking about sounds an awful lot like the way that some credit card lenders feel about consumers who take out loans at low (often zero) "teaser" rates and refinance them before they ever have to pay anything to the lender, which bears its own interest expense in the meantime. That's probably best regarded as a strategy by consumers that takes advantage of lenders who are hoping that the consumers will not repay the debt in time. This hope on the part of lenders can sometimes cross the line into predatory behavior (see, for example, the discussion of teaser rates on mortgages in the Financial Crisis Inquiry Commission report), so the fact that the borrowers and lenders in such a situation aren't particularly fond of one another comes as little surprise.