The Tilt Towards More Regulation on Shadow Banks Creates Opportunities for Non-Bank Lending Solutions

Overview

Does anyone else remember that game Tip It? The point of the game is to remove these little discs from a prong, but when you move one, it affects the balance of the whole structure. Regulations on financial institutions kind of work like that, too. If you change the rules on one part, the rest of the organism adjusts accordingly. Financing is a dynamic system, not a zero-sum game.

Right now, financial regulators are targeting non-bank institutions. But shadow banks are a direct reaction to Dodd-Frank, the regulatory cure for the last financial crisis.

With Dodd-Frank, the government disincentivized banks for making certain types of loans. But the need for capital didn’t evaporate into thin air. Developers needed to get a loan from somewhere. So, what do you do when you need capital and can’t get it from a bank? You find a non-bank institution that doesn’t face the same regulatory scrutiny.

If you’re wondering why banks ended up in this crippling situation with their balance sheets, a lot of it was because of those regulations to make sure they didn’t make risky loans anymore. Instead, they were given incentives to buy government bonds.

What happened next is no surprise. Entrepreneurs realized that the market still needs capital, and they figured out a way to provide it without forming a bank that would be under heavy regulations.

The world isn’t static. It would be naive to think that if the government regulates the shadow banking industry, that move would stop people from providing capital for things that may be considered risky.

Unless you literally outlaw certain types of loans, the market will find a way to get capital. If regulatory burdens are added, the business will move elsewhere, maybe even offshore where it’s permanently out of the reach of the regulators.

Of course, any change in one part of the system has ripple effects on other parts, but the effects could be positive for Bonaventure. Unless regulators somehow try to unwind the clock on our 20 years of fixed rate debt, which they have no reason to do, regulations don’t hurt us.

Limitations on floating rate loans or an outright ban of those loans is not going to hurt us, but it’s still going to hurt someone. Other market participants will be less liquid. If there’s less liquidity, that would drive more business out of the conventional channels and then maybe we can be one of those non-bank lending solutions. After all, we’re in the business of solving problems. So, in the end, the tilt towards more regulation of shadow banks is likely to create opportunities that will benefit our investors.