Small Business Finance Site

Wealth Matters: Deciding Who’s Rich (or Smart) Enough for High-Risk Investments

But it has broader implications. Should the United States government be deciding what people can do with their money? And how do you define who is wealthy enough — and smart enough — to invest in these offerings?

We’re talking about private placements — a term the financial industry uses for anything from real estate deals to hedge funds to last year’s much-talked-about offering in Facebook shares. What all these investments have in common is that they can be sold with fewer disclosures than public offerings.

They also often carry cachet, and those who get into them can end up with large returns. That may seem unfair to anyone excluded because of a lack of wealth. But these private investments can go to zero just as easily as they can climb into the stratosphere, which is why investors who cannot afford to lose a lot of money are barred.

Since 1982, specific dollar amounts have been used to define who is an “accredited investor,” the S.E.C.’s term for someone deemed sophisticated enough to invest in these nonpublic deals.

The two most commonly used measures are annual income — over $200,000 for an individual or $300,000 for a couple — and net worth, which was $1 million. In late December, the S.E.C. redefined how people should calculate their net worth. Per the requirements of Dodd-Frank, the commission removed the equity in a person’s primary residence from consideration. (But if the value of that house is less than the mortgage, that liability needs to be included.)

“It’s an interesting question as to why this qualifies someone as sophisticated,” said Robert E. Buckholz Jr., a partner at Sullivan & Cromwell. “The income and the net worth requirements are a proxy for the ability to fend for yourself.”

But also in compliance with Dodd-Frank, the S.E.C. will spend the next three years determining whether to make further changes in the accredited investor requirements. While it is hard to say what the review will produce, it is worthwhile to look at how wealth and financial expertise have been confused.

WHAT THE RULE DOES In a 2009 article in The Washington University Law Review, Wallis K. Finger, now an associate at Schulte Roth & Zabel, used humor to lay out the problem of using money as a proxy for sophistication.

“Paris Hilton almost certainly can purchase unregulated securities issued by hedge funds or other private investment vehicles,” Ms. Finger wrote. “Although her training and sophistication in the field of high-stakes financial transactions may be limited, the Securities and Exchange Commission would leave her to her own devices if she chose to invest in private offerings.”

For comparison, she created a woman named Sheryl who has a master’s degree in business from Harvard and a doctorate in financial systems analysis. “After all of this schooling, Sheryl is long on debt and short on assets,” Ms. Finger wrote. “She has several offers to work at the nation’s most prestigious investment brokerages. But if Sheryl wants to invest in a private offering, the S.E.C. regulations will not allow it.”

In other words, using money as a stand-in for financial sophistication is a fairly unsophisticated solution.

When news leaked out last year that Goldman Sachs was planning to offer private shares in Facebook to its wealthiest clients, there was outrage from people who were excluded. After much media attention, the firm limited the private offering to overseas clients to be sure it complied with S.E.C. regulations. (Anyone will be able to buy shares in the initial public offering of Facebook.)

In reality, most private offerings are far less glamorous and carry significant risks.

Barbara Black, a professor and director of the corporate law center at the University of Cincinnati College of Law, said she was more concerned about small offerings, like a local real estate partnership, where an entrepreneur tries to raise money by promising outsize returns to investors in the community.

“It may be perfectly fine, but the nature of things is that these are risky,” Ms. Black said. “You see litigation involving people who are wealthy, but you don’t think of them as super-rich — doctors, dentists, lawyers, some accountants. Are these really sophisticated investors?”

DOES IT WORK? The accredited investor regulation is by design paternalistic, but its arbitrariness is what bothers people.

Originally, the Securities Act of 1933 aimed to provide more information on securities to prevent investors from being manipulated. Those who were exempted from these requirements were believed to possess enough knowledge to make informed choices.

Using the example of doctors and lawyers investing in a local real estate deal, Yasho Lahiri, a partner at law firm Baker Botts in New York, said investors would be better protected with more disclosures, not by their degree of wealth.

Tags: Deciding, Enough, HighRisk, Investments, Matters, Smart, Wealth

Debt Ratings Cut For 9 Countries Amid Euro Woes

Another memory jog came Friday from Greece, the original source of Europe’s debt troubles. Talks hit a snag between the new Greek government and the banks and other private investors that Athens hopes will agree to take losses on their debt so that Greece can avoid a default.

Together, those developments underscore that even as Europe’s debt turmoil enters its third year, no clear solutions are yet in sight — despite recent signs that a new lending program by the European Central Bank might be easing financial market pressures.

S.& P. warned in December that it might downgrade many of the 17 nations that share the euro, largely because it said European politicians were moving too slowly to strengthen the monetary union and because the euro zone’s problems were propelling Europe toward its second recession in three years.

European politicians, in turn, criticized S.& P.’s downgrade plans as providing no meaningful new information to investors but simply stoking a sense of crisis.

To some extent, the prospect of rating downgrades has already been priced into recent bond auctions by Italy, Spain and other countries. Italy, in fact, completed another fairly successful bond auction on Friday, even as rumors of the downgrades had begun to swirl.

But the downgrades may now add to the borrowing costs of the nations affected. Some commercial banks that are required to hold only the highest-rated government securities will have to replace French bonds with other assets, like bonds of Germany.

And the downgrades cannot help but add to the gloom pervading Europe’s economic climate.

“Today’s rating actions are primarily driven by our assessment that the policy initiatives that have been taken by European policy makers in recent weeks may be insufficient to fully address ongoing systemic stresses in the euro zone,” S.&. P said.

Finance Minister François Baroin of France said Friday that the loss of his country’s pristine AAA rating, cut a notch to AA+, was “not good news” but was “not a catastrophe.” He insisted that the country was headed in the right direction and that no ratings agency would dictate the policies of France, which has Europe’s second-biggest economy, behind Germany’s.

But the downgrades pose fresh challenges for Europe’s political leaders, particularly President Nicolas Sarkozy of France, who is expected to run for re-election this spring and had long cited his country’s AAA credit rating as a badge of honor.

In August, when S.& P. cut the United States a notch from its top-rank AAA rating, markets briefly plunged. But bond investors have continued to flock to the debt of the United States, which as the world’s largest economy has retained the perception of a financial safe haven. That has kept the United States government’s interest rates at very low levels. But none of the countries downgraded on Friday can necessarily count on such a reaction.

After Friday, the only euro zone nations retaining their top AAA ratings are Germany, the Netherlands, Finland and Luxembourg.

Italy and Spain, which are considered the two big euro-zone economies most vulnerable to an escalation of debt problems, both were downgraded two notches, Italy to BBB+ and Spain to A.

“It will make it harder to erect firewalls around struggling euro zone economies and convince investors that things are more sustainable,” said Simon Tilford, the chief economist for the Center for European Reform in London.

Stocks were down broadly if not deeply in Europe and the United States on Friday, as rumors of the downgrades preceded S.& P.’s announcement, which came after the close of trading on Wall Street. And the euro fell to a 16-month low against the dollar.

Just as significant as the ratings downgrades may be the suspension on Friday of the creditor talks in Greece — whose debt S.& P. long ago gave junk status.

In October, the European Union pledged to write off 100 billion euros ($127.8 billion) of Greece’s debt if bondholders would agree to voluntarily accept 50 percent losses on their Greek holdings. Such an arrangement, known as private-sector involvement, or P.S.I., has been pushed by Chancellor Angela Merkel of Germany as a way of forcing banks, not only European taxpayers, to foot the bill for bailing out Greece.

But talks broke down on Friday between Greece and the commercial banks.

David Jolly and Steven Erlanger contributed reporting from Paris, Landon Thomas Jr. from London and Gaia Pianigiani from Rome.

Tags: Countries, Ratings

DealBook: Lloyds Chief, After Medical Leave, Turns Down Bonus

Carl Court/Agence France-Presse — Getty ImagesAntónio Horta-Osório, chief of Lloyds Banking Group, returned to work on Monday at the company’s London headquarters.

7:34 p.m. | Updated

LONDON — The chief executive of Lloyds Banking Group, António Horta-Osório, decided Friday to give up his bonus for last year after taking a leave of absence from the struggling financial firm.

Lloyds, which is partly owned by the government, said Mr. Horta-Osório told the bank’s board that he did not wish to be considered for an annual bonus for 2011. Mr. Horta-Osório was in line for a bonus of as much as £2.4 million, or $3.7 million. The board accepted the request, Lloyds said in a statement.

“As chief executive, I believe my bonus entitlement should reflect the performance of the group but also the tough financial circumstances that many people are facing,” Mr. Horta-Osório said. “I also acknowledge that my leave of absence has had an impact both inside and outside the bank including for shareholders. On that basis, I have decided to request that the board does not consider me for a 2011 bonus.”

Mr. Horta-Osório resumed running Lloyds this month after taking a two-month medical leave for exhaustion at the end of last year. Lloyd’s board had consulted doctors, investors and the British government — which remains a shareholder in the bank — before allowing Mr. Horta-Osório to return to his post.

Mr. Horta-Osório said he was so consumed by turning around the ailing British bank that he had trouble sleeping. Since joining Lloyds in March last year, Mr. Horta-Osório cut some middle management and worked on improving customer service at branches.

Lloyds reported a third-quarter loss in November and said that it might miss some financial targets because of the difficult economic environment.

Tags: After, Bonus, Chief, DealBook, Leave, Lloyds, Medical, Turns

Smaller Magnetic Materials Push Boundaries of Nanotechnology

The findings, being reported Thursday in the journal Science, could help lead to a new class of nanomaterials for a generation of memory chips and disk drives that will not only have greater capabilities than the current silicon-based computers but will consume significantly less power. And they may offer a new direction for research in quantum computing.

“Magnetic materials are extremely useful and strategically important to many major economies, but there aren’t that many of them,” said Shan X. Wang, director of the Center for Magnetic Nanotechnology at Stanford University. “To make a brand new material is very intriguing and scientifically very important.”

Until now, the most advanced magnetic storage systems have needed about one million atoms to store a digital 1 or 0. The new achievement is the product of a heated international race between elite physics laboratories to explore the properties of magnetic materials at a far smaller scale.

Last May, a group at the Institute of Applied Physics at the University of Hamburg in Germany reported on the ability to perform computer logic operations on an atomic level.

The group at I.B.M.’s Almaden Research Center here, led by Andreas Heinrich, has now created the smallest possible unit of magnetic storage by painstakingly arranging two rows of six iron atoms on a surface of copper nitride.

Such closeness is possible because the cluster of atoms is antiferromagnetic — a rare quality in which each atom in the array has an opposed magnetic orientation. (In common ferromagnetic materials like iron, nickel and cobalt, the atoms are magnetically aligned.)

Under the laboratory’s founder, Don Eigler, I.B.M. has explored the science of nanomaterials far smaller than the silicon chips used in today’s semiconductors. Dr. Eigler recently retired from the company but is a co-author of the Science paper.

The researchers now use a scanning tunneling microscope, which looks like a giant washing machine festooned with aluminum foil, not only to capture images of atoms but to reposition individual atoms — much the way a billiard ball might be moved by a pool cue with a sticky tip.

Although the research took place at a temperature near absolute zero, the scientists wrote that the same experiment could be done at room temperature with as few as 150 atoms.

As part of its demonstration of the antiferromagnetic storage effect, the researchers created a computer byte, or character, out of an individually placed array of 96 atoms. They then used the array to encode the I.B.M. motto “Think” by repeatedly programming the memory block to store representations of its five letters.

Moreover, Dr. Heinrich said, smaller groups of atoms begin to exhibit quantum mechanical behavior — simultaneously existing in both “spin” states, in effect 1 and 0 at the same time.

In theory, such atoms could be assembled into Qbits — the basic unit of an experimental approach to computing that might one day exceed the capabilities of today’s most powerful supercomputers.

“If you do this with two atoms, then they behave more like a quantum mechanical object,” Dr. Heinrich said. “This is why science is interested in this work more than the technology.”

In an interview in a small laboratory office here, he said he was planning to knock out a wall to create room for an expanded effort in exploring the quantum mechanical properties of the antiferromagnetic effect.

“This is really where we live,” he said. “If you step outside of the press release, we are trying to control the quantum mechanics of this spin behavior to coax them to do whatever we want them to do.”

Computer industry analysts said the I.B.M. effort heralded a new direction for nanotechnology and that it might offer a route to new kinds of nanomaterials.

“Nanotechnology labs are going to begin asking, ‘What else is going on down there?’ ” said Richard Doherty an electrophysicist who is director of Envisioneering, an industry consulting firm based in Seaford, N.Y. “The information storage side of this is fantastic, but this truly changes our ideas of the behavior of materials at molecular levels.”

Antiferromagnetic materials are now instrumental in two types of data storage products. They are essential for the manufacture of recording heads, which resemble phonograph needles and are used in today’s hard disk drives. They are also used in a new type of memory chip known as spin-transfer-torque RAM, or STT-RAM, which some view as a future competitor for DRAM and Flash memory chips.

Dr. Heinrich said that the tiny devices built with scanning tunneling microscopes would never be more than laboratory experiments.

However, he noted that many research groups are exploring ways of designing novel materials using self-assembly methods, including mechanical and biological approaches.

Industry executives said that as the semiconductor industry draws closer to exhausting the ability to scale down today’s circuits using lithographic tools that etch patterns on the surface of silicon wafers, an intense international hunt is under way for a manufacturing technology beyond microelectronics.

“The nation that discovers the next logic switch will lead the nanoelectronics era and reap the economic rewards associated with it,” said Ian Steff, vice president for global policy and technology partnerships of the Semiconductor Industry Association.

Tags: Boundaries, Magnetic, Materials, Nanotechnology, Smaller