New Basel banking rules, which come into force in the US over the coming months, will reduce available credit to some businesses - which is where Boxwood Strategic Advisors sees a new opportunity.

Regulators of the global banking system are tightening up the capital standards, which may make sense in a world where the costs of lax credit have been made brutally obvious. Tougher rules, however, can also hurt entrepreneurs – future wealth management clients.

As regulations known as Basel II take effect in the US – they are already in force in Europe – it is making it harder to lend where the collateral is an illiquid asset such as a business, argues Alexander Haverstick, chief executive and managing partner at Boxwood Strategic Advisors, the firm he founded in 2007. His firm is currently gearing up to engage in more lending after working on a round of fund-raising from investors.

His New York-based business intends to help fill the gap that the Basel rules are helping to create. Haverstick says his business model is unique. As his firm’s website says, Boxwood aims to perform the role of a sort of “surrogate chief financial officer” to an individual or family.

"Because we talk to private bankers every day, we realised there is a looming gap in the market for lending to individuals against illiquid and hard-to-value assets such as private equity. We  intend to fill that gap as well by creating a lending vehicle designed to lend to individuals against those assets that it will be uneconomic for banks to take as collateral under Basel II,” he told Family Wealth Report in a telephone interview.

The Basel banking rules are designed to make the financial system more robust by requiring institutions to set aside capital to protect against certain risks; in the past, they have, however, been criticised for unintentionally encouraging banks and other lenders into removing credit risks from balance sheets through the use of ring-fenced vehicles and via the use of derivatives, creating the so-called “shadow banking system”.

A few days ago, analysis by Barclays Capital’s debt capital markets group estimated that the 35 largest US banks will have to come up with $115 billion, about half as much new capital as had been expected following last month’s rewrite of proposed requirements by the Basel Committee on Banking Supervision. Even so, the implementation of the new rules will have a significant impact.

The Basel Committee is convinced, however, that making the banking system more robust is good for global economic growth in the long-run, a fact that appears pretty persuasive considering how the recent credit blowups in the US and elsewhere helped trigger one of the worst recessions in decades.

Advice

Boxwood Strategic Advisors advises wealthy individuals on managing their net worth – in other words, the relationships between their liabilities, assets and cash-flow needs.

"We deal primarily with entrepreneurs who are either growing their balance sheets or whose balance sheets need some work,” Haverstick said. "We will be a finance company and not a bank."

As reported by this publication’s sister website, WealthBriefing, the financing gaps created by increasingly cautious banks have encouraged demand for alternative funding sources. For example, angel investor networks have sought to tap this market opportunity. (To view an article on the matter, click .

Haverstick has experience at working the private client world, having spent more than 30 years in the business in roles ranging from practicing individual client law to running business development for Deutsche Bank’s US private wealth management arm.

At Deutsche, he met and developed a close working relationship with Leigh Hoagland, who at that time ran DB’s US private client loan portfolio, and who is now also a partner at Boxwood. He said that two of them realized that the wealth management industry ignored clients’ balance sheets in favor of gathering investable assets, and sought to fill this gap in the market. They also spotted another gap: this time in the ability of wealthy individuals to borrow from Banks post-Basel II.

“Under Basel II, banks will be required to allocate Tier One capital differently than under Basel I. Whereas under Basel I, the capital allocation was the same across asset classes and borrowers, under Basel II the capital allocation will increase exponentially for loans secured by assets not considered investment grade," he explained.

For example, while a bank will be able to lend as easily as before against a home or a diversified basket of liquid securities, it will be much more costly, in terms of risk capital, to lend against something such as the unrealized equity in an entrepreneur’s business, said Haverstick.

"The combination of national legislative and global regulatory measures threatens to paralyze the banks, at least with regard to financing strategic investment by individuals and companies...it has a chilling effect on capital growth. If there is no lending to entrepreneurs, how is the economy going to grow?"

"If you tell a bank that a regulator is going to crawl all over you with auditors then you will spend your time dealing with administrators rather than making loans,” he said.

The Basel rules, which in their latest version took effect in Europe in 2007, take effect in the US in April 2011, so there is not much time for institutions to prepare.

“Since the fall of 2008, risk tolerance has continued to diminish and the cost of risk has increased. This is not good news for global economic growth," concluded Haverstick.