By Daniel Lanyon on Thursday 1 September 2016
PIMCO’s Christian Stracke argues disruptive regulation for banks ranks among the biggest investable themes over the longer term.
Ongoing disruption of traditional banking firms owing to punitive regulation will create increasing opportunities for investors in alternative credit and lending niches, according to Christian Stracke, global head of credit research at PIMCO.
The fixed income giant Pacific Investment Management Company, which has $1.52trn in assets under management, is traditionally associated with the more regular part of the bond market with many of its funds focusing on top down macro strategies. Owing to several trends, however, Stracke argues opportunities will increasingly open up in alternative fixed income areas such as direct lending and invoice financing.
He says that the increasing burdens on banks in terms of capital requirments to meet regulation and ongoing disruption of their business models is likely to be a wellspring of opportunities for alternative credit and niche lending investors.
“Nearly a decade after the global financial crisis, a raft of current and future reforms – and their disruptive effect on financial business models – will take effect over the next few years. Banks are facing higher capital requirements, higher loss provisioning and higher compliance costs – pressures that we believe will prompt banks to exit more non-core businesses,” he said.
“The result, we believe, will be more acute funding gaps and more frequent dislocations between public and private markets – all of which will create investment opportunities for less constrained and more patient capital”.
With forthcoming returns on capital looking harder to come by due to a bout of bearishness among investors, focusing areas hit by new regulation is a “logical strategy”, Stracke said, for those seeking excess returns.
“In that sense, disruptive regulation must rank among the biggest investable themes over the secular horizon,” he said.
Regulation has ramped hugely in since the financial crisis with compliance costs and capital burdens naturally increasing to record highs. This among other trends is the cause of the explosive growth in alternative credit and financing.
This trend is set to peak in the coming years, Stracke argues, as regulation such as Dodd-Frank and Basel III regulations come into force and a further wave of regulatory reform is announced.
“We believe banks will exit more non-core businesses, specific funding gaps will become more acute and dislocations between public and private markets will become more frequent. Each will create investment opportunities for less constrained and patient capital to capture economic profits being ceded by banks,” he said.
These potential areas include direct lending, financing others’ loan assets or taking equity stakes in a specialty lending businesses. Other positive factors for alternative credit investors could include consolidation among non-bank lenders, shifts in policy and regulations or the rehabilitation of the securitisation market.
“Where the provision of capital makes a lending enterprise more valuable, those supplying the capital should share in that value creation,” he said.
Some of the major 'disruptive' regulation facing tradional banks
One huge area for potential is mortages Stracke says where origination has slowed from its pre-crisis rate, representing a scalable opportunity to lend at historically wide credit spreads with conservative lending standards.
"This dynamic epitomizes a true funding gap, one where banks have genuinely retrenched, capital markets are closed to securitization and private capital faces material barriers to entry."
"A new market structure is emerging, one needed to fulfil the goal of regulators to create a safer financial system.”