Smaller Asset Managers Cry Foul at Some Basel II Requirements

As the final Quantitative Impact Study for Basel II gets underway, some smaller buy-side players worry about competitiveness.

As credit-risk-management technology spending increases, more and more attention is being paid to one of the drivers behind it: Basel II and its potential capital requirements. The risk-management industry is currently undertaking the third Quantitative Impact Study to provide feedback on the proposed Basel II recommendations - the next and almost final step in the recommendation process.

For the QIS 3, the Bank for International Settlements is surveying about 250 firms from 50 nations to gather and relay information to the BIS's Risk Management Group. The survey tests out new models to figure the impact they will have on particular institutions, says Michael Haney, senior analyst at Celent.

The BIS circulates an Excel spreadsheet for the selected firms to fill out and return. The information is submitted back to the BIS where it is aggregated and analyzed by the committee. The firms also have a chance to submit feedback. Once the massive volume of information is digested by the BIS, they will make any further adjustments to the proposed accord and come out with what Haney expects to be the final result around the fourth quarter of next year, with the proposed deadline for implementation now standing at 2006.

As the QIS 3 gets underway, though, more concerns over Basel II and its proposed capital requirements are beginning to surface. The asset-management arena has been grumbling that Basel II would hinder its competitiveness. "They traditionally don't have a lot of credit risk so their regulatory capital that they've set aside isn't as great as you'd see in other areas of the financial-services industry," says Haney. "But if you add in operational risk, suddenly they're seeing a much larger capital charge and then, potentially, their taxes go up, their fees that they need to charge customers go up and you could start to see customers leave them and go into asset-management firms that aren't regulated like a bank would be."

Haney adds that, in this example, if these asset managers lose potential business, the business will be going to non-regulated areas. "Then it would all sort of be lost when you have high-risk institutions that are getting most of the business," says Haney. He explains that smaller firms that perform asset-management services are not always considered financial institutions, and often provide more brokerage-type services and less banking services. "This may be less of a concern in other parts of the world where asset management continues to take place in the banks, for example," says Haney.

David Lara, director of investment-management-technology services at Hotchkis and Wiley Capital Management, which manages about $4 billion, agrees that Basel II will definitely be more challenging for smaller firms. "But I do think that we have the resources in order to address these challenges if we approach it objectively," he says. "The approach from our perspective is kind of projecting it and maybe the timeline might be a little bit different or maybe the priorities might need to be adjusted."

Haney adds that while Basel has been making progress on improving the "one-size-fits-all" model for capital-allocation requirements by creating different models for different types of institutions, time is of the essence. "You have to work with the (regulatory) supervisors to get approval for some of those models and that takes time," says Haney. "Sometimes they need certain things like two-years worth of data, which some firms may not simply be monitoring and measuring right now. So two years from now, they might finally get the correct amount of data that they need, and only then can they start implementing their programs and working with their supervisors."

Haney explains that the most important thing for firms, especially larger firms, to realize when preparing for Basel II is that it takes time. Sometimes up to nine to 12 months to develop the right program for the business and pilot the models before they are implemented. On top of that, he says, it could take two to four years to fully roll out the program.