Tag: alternative finance

Consolidation and The Plight of Thrifty Consumers

Author
Angus Dent
Date

The storm clouds are gathering for the P2P sector – they have been for about a year now, ever since a few prominent platforms (e.g. Lending Club and Funding Knight) started to get into trouble and the mainline media’s enthusiasm for all things ‘Alternative Finance’ suddenly took a 180 degree about-turn.

We are still enjoying low interest rates, which means that there is currently no shortage of lender appetite, but bank statistics show that SMEs are trying very hard to live within their means and not to borrow. The uncertainty created by Brexit and Trump is not a myth, but a fact.

Despite it all, the giants of the business, Zopa and Funding Circle, have managed to achieve some serious momentum – the former having recently passed the £2bn lending landmark, the latter not too far behind. But both have been losing money and so, it seems reasonable to assume, have most of their smaller rivals. In the meantime, the FCA is sitting on dozens of applications for full authorisation and, accompanied by dark warnings of foreboding from politicians and even the Governor of the Bank of England, it seems that the regulator’s new book of rules (due this summer) will usher in far tougher controls. Many platforms may not be able to survive, while others may simply draw stumps and leave the field.

Is this the beginning of the end for P2P? I think not, but it would be naïve to ignore the warning signs that maybe the honeymoon is over. Far more likely is that we are about to enter a period of consolidation, when the well-conceived, better-financed platforms are either picked off or merge in order to achieve scale and make some cost savings.

In the event of an outright take-over, it would be interesting to see the terms; what realistic value can be placed on a loss-making business operating in a relatively young industry? It might take an entity with very deep pockets and patient shareholders to take such a bold step – a bank, maybe?

The reality is that, if a handful of small platforms got together to form one platform operating under one brand name, the result would probably not amount to a row of beans in a financial sector dominated by giants. But if two of the biggest got together – those writing new loans at a rate of up to, say, £1bn each per annum – then that would be worth doing, particularly if you could halve the marketing costs. The result could be a very profitable company. Would that be allowed under the Monopoly rules? I suspect that someone will have to try it first to find out.

In the meantime, inadvertently or not, the Government is adding to the attractions of the P2P sector by cutting the interest rates available on National Savings & Investments (NS&I) accounts by up to 0.25%. The number of monthly Premium Bond prizewinners is also to be reduced to create the same effect.

In May this year, the return on the NS&I Direct ISA will reduce from 1% to 0.75%. The return on its Direct Saver Account will be adjusted down to 0.7%. As one national newspaper pointed out, that is less than half the expected rate of inflation.

Many private sector products from the banks have been adjusted in line with the NS&I. The average easy access savings and ISA accounts reportedly pay 0.37% and 0.65% respectively. That is one hell of a price to pay for guaranteed returns and the security provided by the FSCS. All of which explains why an increasing number of consumers are prepared to accept an element of risk in return for a yield on 6% on P2P loans. It will be interesting to learn what, if anything, Chancellor Philip Hammond is prepared to do in his Budget early next month to help honest savers.

“The P2P Sector Is Growing Up”

Author
Angus Dent
Date

There was always going to come a time when the Alternative Finance revolution would falter – maybe we have already reached that point. P2P lending and equity crowdfunding are no longer quite so new and, as the latest missive from the FCA makes clear, this particular side of the Altfi sector has outgrown the rule book. There are also early signs that the novelty is starting to wear off, certainly with the media. So, perhaps now is an ideal opportunity to take a step back and reflect.

Looking ahead into 2017, it is difficult to see how the benign conditions that have helped P2P platforms to create such a significant presence so rapidly – e.g. recovering economy, low interest rates, banks on the back foot – can continue indefinitely. Sooner or later interest rates will start to climb back up and there will be a downturn in the economic cycle. And, with so few platform operators making a profit, there are bound to be casualties.

Some platform backers may grow impatient with the expensive pursuit of acquiring market share at any cost and insist on seeing a return on their investment. Other platforms may simply ‘time out’ because their proposition is not sufficiently different or they have insufficient mass or financial backing to continue.

This could lead to business failures or, more likely, mergers/take-overs of platforms. Consolidation would be a perfectly normal phase for an emerging sector that has a myriad of players all vying for customers and profitability. The High Street banks, too, will recover their poise and may decide to dip their collective toe in the water by making a P2P acquisition or two of their own – if they do, they will almost certainly take aim at the biggest, the most established or those best placed to be scaled. All this is not so much to be pessimistic, rather it is to be realistic. Consolidation is inevitable.

The important thing is to make sure that P2P lenders do not suffer financially. If a platform fails, it does not follow that the loans in which the lenders are invested go bad. All P2P operators should have run-off plans in place to cover that eventuality – something that the FCA, quite rightly, insists upon. If private investors start to lose money, the press and other critics will have a field day.

What is also important is that the P2P sector does not allow itself to be divided into a number of component parts, either into the large and small platforms, or those with different business models. The sector should operate as one for its own protection and for the common good.

The P2P sector is growing up – it can either be in charge of that process or be at the mercy of others.

growth

Disintermediation

Author
Angus Dent
Date

There has been much speculation about the potential impact of the IFA and wealth manager communities eventually throwing their weight behind the P2P sector. Why they haven’t done so up until now hinges on the argument that without FCA approval they have not felt able or willing to recommend P2P products to their clients. The FCA’s lengthy deliberations regarding which P2P platforms are granted full authorisation – a process that is still ongoing for most of the major platforms, including ArchOver – have obviously not helped the cause.

Crucially, authorised status will dictate which platforms will be able to offer an Innovative Finance ISA product. It is widely anticipated that, for those who pass the FCA test, this could act as the trigger that will prompt IFAs/wealth managers to give their active endorsement to P2P through IF ISAs. The hope is that, once the regulatory shackles come off, the floodgates will open as lenders/investors pile in to take advantage of tax free returns on P2P loans (obviously within annual ISA limits), which we know would generate far more attractive returns than those based on bank or building society deposits.

P2P Lending

It all sounds great. My only question is: why do we need the wealth managers and IFAs now? Surely disintermediation lies at the very heart of the whole P2P lending project – a process by which the investor receives a greater share of the return because the middle man has been removed from the equation.

This can be easily demonstrated in the world of investment management where investors are forced to give up part of their gain in the form of fees. An investment of, say, £100,000 may produce an annual return of 7%, or £7,000. A return reduced to 6%, of £6,000, by fees would mean a reduction of £1,000 in one year alone. Over a period of five years, arithmetic shows that the cumulative loss would be £17,797, assuming annual returns are reinvested. Removing the middle man may involve slightly more effort on the part of the investor – virtually none if you are being charged fees to invest in a tracker fund – but the savings can be considerable. And it makes still less sense to be charged fees in the years when investments fall in value.

And the same applies to the world of debt finance where the banks are a classic case to point. For decades, they have enjoyed low cost of capital which, when combined with the low returns offered to depositors, explains how they can afford to maintain a presence in the High Street.

The internet has been one of the driving forces behind disintermediation – it allows the dissemination of information to large numbers of people at low cost. And the process has only just begun.

To ‘re-intermediate’ by inserting a layer of fee-charging organisations between the client and the product provider – IFAs, wealth managers and P2P aggregators, to name a few – represents an unnecessary step backwards. Those who take the risk should keep the gain

Skin in the Game

Author
Angus Dent
Date

The term ‘skin the game’ is a fairly recent addition to the P2P business lending sector’s collection of ‘cool’ phrases. An import from the equity finance side of the fence, it is meant to comfort lenders/investors with the thought that, if they lose their money, others – particularly the borrowers, but also other lenders – will lose theirs, too. But apart from sounding modern and slick, does it send a message that typical lenders necessarily want to hear? And does it have any real value anyway?

‘Skin in the game’ has crept into the picture because a few P2P lenders have taken the step of putting money from their own balance sheets into selected projects. The motive for taking this kind of risk appears to be to help certain borrowers raise the cash they need because (a) some loans do not meet the usual lending criteria and (b) in the platform’s estimation, the borrower company nevertheless deserves support. Their action bears all the hallmarks of bank lending, which is why some commentators are beginning to ask whether this is the first step towards achieving that ultimate ambition. It suggests that everyone in the P2P sector secretly wants to trade their original disrupter ticket in order to become a bank.

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We can’t possibly comment on the corporate plans of our competitors, but ArchOver’s position on this is quite clear: we are not a bank and neither do we have any ambitions in that direction. We are not a venture capital company, either. We provide a matching service between borrowers and lenders, using a unique business model designed to protect the interests of all parties, but especially lenders.

Furthermore, it is our contention that having the right business model – in our case we use credit insurance to protect assets valued at 125% of the loan – offers far better lender protection than having a borrower prepared to risk their own money to the tune of, say, 5% of the total as a gesture towards the ‘skin in the game’ culture.

On the issue of fairness, surely it is far better to treat all lenders the same, irrespective of whether they are individuals, family office or small institutions; there should be no special deals for anyone. And we would also argue that it is better to conduct rigorous due diligence in the first place, and to stick to the criteria rather than try to justify special cases. We do not subscribe to the notion that borrowers and lenders want to see platforms putting their own solvency at risk through approving poor loans. That’s something the banks do!