Why private equity firms should enter banking sector- Robin Trehan

Due to regulatory issues, private equity firms have been unable to fully enter the banking sector. This is due to the fact that the Federal Reserve prohibits such firms from owning majority stakes in banks.

However, in light of the current economic situation, it is clear that this type of regulatory interference no longer makes sense. Thus far, the government’s response to the banking crisis has been cleary inadequate. Banks across the nation continue to close their doors. The FDIC website lists over 70 banks that have failed in the first half of 2009 alone, and the trend show no sign of stopping.

Even if it did prove effective, a governmental “bail out” of banks is an unnatural way to try and fix the problem. It is a stop-gap measure that runs contrary to the normal function of the market. The tactic is unpopular with many Americans, and for good reason. Allowing private equity firms the freedom to participate in the banking sector makes much more sense. It would provide a much more effective long-term solution while at the same time avoiding negative perception from taxpayers.

Banks fail due to lack of capital. Private equity firms have access to around $1 trillion in cash and these companies have made their interest in the banking sector clear. For example, some firms have tried to circumvent the Fed’s regulations by working together. Each one of a group of firms purchases a small position in a bank with none holding a majority stake.

There’s no reason to force private equity firms to jump through such hoops. When all the factors are taken into account, it just doesn’t make sense for the government to prevent these two sectors from establishing a mutually beneficial relationship. Creating a regulatory environment that makes it easy and effective for private equity firms to provide banks with the capital they need is an obvious win for both sides, and for the economy as a whole. The Federal Reserve needs to revisit the relevant regulations and modify them in a way that encourages, rather than discourages, private equity investment in the banking sector.

Robin Trehan is management and financial expert. He can be reached at www.keyfunds.com