p2p lending

Moody’s Position on Marketplace Lending

You can’t slap a FICO score on to an entire industry but you can still assess its short term and long term risks. That’s precisely what ratings agency Moody’s has done in a report they published last month titled, 2016 Outlook – Marketplace Lending Platforms Will Continue to Evolve, Expand Loan Types.

In their report, Moody’s defines “marketplace lending” as “the growing industry of Internet-based, alternative lending platforms for consumers and small businesses.” And there’s good news, they predict it will further expand globally in 2016. The US is not even the biggest game in town, according to Moody’s, China is. “China will remain by far the largest market for marketplace lending and similar online lending platforms,” they wrote.

OnDeck was labeled as the leading player in the small business loan market, SoFi and CommonBond for student loans, and Lending Club, Prosper, SoFi, and Avant for personal consumer loans.

Listed among the industry’s risks is the Madden v. Midland decision. Ironically, merchant cash advance companies who gave up doing purchases of future receivables in exchange for becoming a “true lender” have found themselves wondering if merchant cash advance was perhaps the safer model all along. “Questions remain about the viability of the loan origination model many marketplace lenders currently use, in which a partner bank originates the loans, then promptly sells them to the marketplace lender,” the Moody’s report states. “This model allows marketplace lenders to take advantage of federal “rate exportation” laws and offer loans with interest rates that exceed the maximum rate otherwise allowed.”

Below are some of the other highlights:

• An increase in interest rates will not have an impact on performance but defaults will rise moderately
• Defaults on student loans will continue to be low
• Unemployment is not expected to rise in the near term

Most people probably can’t name more than 5 peer-to-peer lending platforms in the US. Meanwhile in China, there are so many that 800 of them have already failed or were recently facing major liquidity issues. There are more than 2,600 platforms there nationwide.

You can read the full 14 page report HERE

A Recession Could Turn Marketplace Lending Into The Hunger Games

When you don’t have the upper hand, one strategy is to partner up with opponents whose skills complement yours in order to compete with everyone else. But partnerships, while essential to self-preservation in an ultra competitive environment, are fleeting on the road to victory. When the field starts to narrow, it’s only a matter of time before truces are cancelled. The enemy of your enemy is your friend until they eventually become your enemy as well. Katniss Everdeen was not a lender last I checked, but her story is not so different.

Just last year, OnDeck partnered up with Chase while Fundation partnered up with Regions bank. Dozens of other “lenders” have partnered up in a different way with WebBank, Bank of Internet and Celtic Bank. Marketplace lending platforms that serve as centralized matchmakers have partnered up with hundreds of lenders and merchant cash advance companies. And Wells Fargo has had an arrangement with CAN Capital for what seems like forever.

Bank of America however, has vowed to fight on alone. According to the Wall Street Journal, BoA CEO Brian Moynihan “has no plans to partner with online or alternative lenders in part because of potential dings to its reputation.” Is that decision at their own peril?

While 2015 became the year of alternative lenders gushing about partnerships with banks (and that supposedly being the plan all along), Broadmoor Consulting Managing Principal Todd Baker relegated these alleged disruptors to a lesser status he refers to as “enablers.” Baker posits that OnDeck’s future for example, “may be brighter as a technology provider to banks than as a freestanding finance company subject to the vagaries of economic, credit, liquidity and regulatory cycles.” While perhaps not intentional, he seems to suggest that overtaking banks through technological innovation was unlikely and that alternative lenders are destined to a life of impotence, one that merely “enables” the competitors they were never going to beat.

Somewhere out there in the arena, Baker’s best friend Mike Cagney of SoFi is gearing up to win the 2016 Hunger Games. By openly admitting that banks like Wells Fargo and First Republic are the enemy, Cagney exhibits the ferocity one would expect of a tribute from District 2. SoFi has made nearly $7 billion in loans and wants their borrowers to leave their banks.

Behind the scenes, the Head Gamemaker is threatening to shower the arena with regulations and rising interest rates. While the alternative lending contestants partner up to ensure survival at least until the later rounds, there is potential trouble brewing in and around Panem, another recession. To hear most companies tell it, they would welcome a recession because they believe their models are built to withstand boom and bust cycles. Indeed, the atmosphere at Money2020 was exactly that, that it would be really convenient if the weak could hurry up and die already.

We should however consider that the consequences of a recession may go one step further and tip the scales of lending in a way that the “enablers” almost unwittingly become the new masters few now believe they’re destined to be. The Royal Bank of Scotland chief credit officer for example has already gone on record and told the public to sell bloody everything and prepare for the impending end of the world. 2016 will be a “cataclysmic year,” Andrew Roberts said. Fortune and Forbes have run less harrowing stories in recent days but warned that China, declining oil prices, and market signals indicate a recession could happen this year or the next. Reuters says we’re just facing a little thing called a “profit recession.” But whether these issues are false flags or indications of something more, an environment where credit once again becomes frozen in the traditional banking system could mean a suspension of partnerships between banks and alternative lenders. For alternative lenders that rely entirely on traditional banks for capital to begin with, the end for them will be swift and painful.

For those that don’t, let’s just say there’s a certain long-term advantage to being open for business when everyone else is closed. The merchant cash advance industry for example, which operated in an abyss between 1998 and 2008, suddenly awoke like a sleeping dragon during the Great Recession. In what is now a $7 billion/year industry or a $20 billion/year industry depending on how you define a merchant cash advance, the concept is now widely accepted as an alternative to traditional financing, even if at times criticized.

Foundation Capital’s Charles Moldow believes that “marketplace lending” will be a trillion dollar industry by 2025. “Consumers are fed up,” writes Moldow in his white paper. “Banks are no longer part of their communities. Rates are high for borrowers and not even keeping up with inflation for depositors. During the Great Recession of 2008-2009, when consumers and small businesses needed access to credit more than ever, many banks stopped offering loans and lines of credit.”

71% of Millenials would rather go to their dentist than listen to what banks are saying, according to Viacom’s Scratch. 33% believe they won’t need a bank at all in 5 years.

The presumption is often that banks will prevail in the lending tug-of-war anyway because they are more or less tasked by the federal government to be the arbiters of all lending activity. An economy where consumers and businesses regularly conducted their finances outside the purview of the banking system would be a nightmare scenario for a government that relies on the ability to monitor and control everything. Ergo alternative lenders should partner up with these banks, “enable them” and surrender to a future of impotence in which their only purpose is to serve their masters until perhaps one day the banks replace them with something else.

With alternative lenders still operating unfettered for now, today’s developing regulatory pressure would in all likelihood be traded for support in a recession, even if that support came in the form of willful ignorance.

If Millenials would already rather get a root canal than talk to their bank, then it’s probably not a good time for banks to become even less friendly, as would happen in a recession. The timing of one in the near future is almost to be expected considering how long it’s been since the last one, but the next one could be one of those transformative moments in history in which the world actually comes out looking a little bit different. Make no mistake, today’s alternative lenders are disruptive, they’ve just been playing the game rather safely. Partner up, work together, “enable” if they must, whatever it takes to ensure their survival into the later rounds. From student loans to consumer loans to business loans, 2016’s tributes are a force to be reckoned with.

There was only supposed to be one victor of the 74th hunger games, the banks. And there was always one until one year there were two. They surprisingly weren’t there to serve and enable their master either. The system that always was, was irreversibly disrupted.

The next recession could produce a similar outcome. Partnering with banks now seems like a great idea, but absent an actual merger or acquisition, they should be considered temporary alliances. You know what that means…

To the marketplace lenders and the technologies that power them, happy 2016! And may the odds be ever in your favor.