A group of US state pensions, including the Oregon Public Employees’ Retirement System and the New Jersey Division of Pension and Benefits, have aligned with major buyout firms against proposed rules by the Federal Deposit Insurance Corporation that would make it harder for private equity firms to buy troubled banks.
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“Our primary concern is that impediments to private capital flows may raise safety and soundness risk and slow the healing of the credit creation process. If that judgment were proven correct, the effects would be detrimental to the overall performance of our investment portfolios,” the group, which also includes the state treasurers of North Carolina, Pennsylvania and Connecticut, said in its letter to the FDIC.
The FDIC will this week vote on the proposed rules.
The effects would be detrimental to the overall performance of our investment portfolios.
Pension group's letter
Private equity has been viewed as an important resource given capital shortages in the banking system. But it has been difficult to strike a regulatory balance that encourages investment while preventing moral hazard.
If FDIC regulations come to pass as they are currently written, “it will basically kill it for private equity”, Tony James, president of The Blackstone Group, warned in an earnings call.
Of the FDIC rules proposed in July, a few points have been particularly contentious for advocates of private equity. The FDIC will meet on 26 August to vote on the stricter guidelines. Last week, several media outlets reported the FDIC was considering scaling back some of the regulations, including reducing the required capitalisation ration.
The FDIC proposes that an acquired financial institution would have to be “very well capitalised at a Tier 1 leverage ratio of 15 per cent,” meaning a $100 million bank would need to keep $15 million in the bank itself, according to an FDIC spokesman.
In a letter to the FDIC, The Blackstone Group, Centerbridge Partners, TPG and other private equity firms said such a high ratio would put private investors at a competitive disadvantage to other bidders for failed banks. The group suggested several alternatives, including a leverage ratio of 8 percent, with the need for higher capitalisation determined on a case-by-case basis.
The coalition of pension funds similarly believes the 15 percent capital requirement is “unduly restrictive”, noting “any excess capital requirements relative to what is demanded of other players…will reduce the availability of other useful and necessary capital inflows”.
In order to prevent “flipping”, proposed FDIC regulation would also force firms to hold bank investments for a minimum of three years. Private equity groups believe the rule is unnecessary, or at the very least, should be reduced to an 18 month period.
Regulation would also bar investors from using bank credit to support their portfolio companies, but private equity advocates argue the restriction should only apply to investors with a significant ownership stake of at least 10 percent.
Private equity firms like Fortress Investment Group are interested in providing a solution to the troubled sector but until the rules regarding bank investments are clarified. Co-founder Wes Eden said on a recent earnings call that “it is difficult to commit capital [to the sector] given the uncertainty”.