Basel III Endgame regulations, as proposed, would result in rationing of credit to vulnerable small and mid-sized companies, resulting in more limited risk-management services to this group. This certainly means less credit available in general, and, specifically, may cause banks to suspend sales of financial derivatives to companies with challenged credit ratings.
Aegis is aware of and has been following developments of the proposed rules as part of Basel III Endgame. Our clientele include companies who use — and are often required to use — financial commodity derivatives to insulate them from commodity-price volatility. We there could be a meaningful impact on our client base as well as numerous other industries and market participants. Due to industry criticism, we think there is a good chance rules, as currently outlined, will be revised.
AEGIS Letter:
AEGIS Hedging Solutions is particularly concerned that Basel III Endgame will have several meaningfully negative effects on our clients, industry, and economy. AEGIS Hedging Solutions is a leading commodity risk-management firm representing over 350 clients across energy, metals, and environmental markets. We see every day the necessity for transparent, efficient, and regulatory compliant commodity derivative markets. Financial derivatives such as swaps and options are our clients’ primary tools for mitigating commodity-price risk. As these derivatives are offered mostly by banks, our clients rely on these large financial institutions to provide market liquidity.
The largest banking institutions that would be subject to these proposals provide numerous services to clients across the commodity landscape, and these services require offering credit of various types and warehousing risk. These large banking organizations play a critical role as counterparties to commercial end users for derivative hedging, serve as capital market intermediaries, and provide sources of capital and lending, among other critical financial roles. The proposals under Basel III Endgame would significantly increase the capital requirement and associated costs for these critically important liquidity providers. Increased capital costs for banks will undoubtedly result in lower liquidity and higher transaction costs to end users of derivative instruments.
Not only are these proposals punitive to all derivative end-users, its highly likely smaller businesses will be disproportionally adversely affected. Commodity risk mitigation (most often by “hedging” using financial derivatives) is particularly attractive to small and medium-sized businesses who are increasingly sensitive to commodity-price volatility and unpredictability. Additional barriers to hedging through a lack of market liquidity and increased transaction costs could make it cost prohibitive for some businesses to continue this crucial business practice of hedging.