Peer to Business Lending
Alternative Finance Sector Report - November 2014
16
PEER TO BUSINESS LENDING
ALTERNATIVE FINANCE SECTOR REPORT
PUBLISHED
November 14
AUTHOR
Luke Jackson
Samantha Goins
What is the loan/borrower
matching process or order
exchange?
Platforms use different criteria to assess
borrowers during their due diligence
process. Once a loan has been given
a risk rating and priced through the
credit policy of the platform and then
approved, it will become available on
the platform for investors to lend to.
The matching process varies between
platforms. Some will set a fixed return
which lenders can agree to lend at.
Others allow lenders to offer the lowest
rate they are willing to lend at based on
the risk rating of the investment, similar
to an auction – in this case the borrower
will accept the lowest rates available. The
loan will be available on the platform
until it is fully funded by lenders or when
a specific time limit has been reached.
Investors can choose interest rates they
are happy with in return for the risk they
are undertaking.
Are interest rates
competitive across all
loan durations?
Interest rates will generally be higher
for longer-term investments, but the risk
rating of the investment is usually the
main criteria when setting interest rates.
Higher risk loans should offer higher
returns. Longer-term loans offer higher
returns to compensate investors as their
capital is tied up over a longer period
of time. Over longer durations, returns
are also more susceptible to increases in
general interest rates or inflation.
Are interest rates
competitive across
different lending markets
and how do ordinary retail
consumers monitor and
assess this?
Interest rates vary by platform due to
different risk ratings and listing criteria,
and there is no guarantee that a loan
listed on one platform would have
the same interest rate as an identical
loan listed on another. Investors
should familiarise themselves with and
understand the processes of more than
one platform to find one that meets their
needs. Fortunately it is very easy to sign
up to P2B platforms, and investors can
compare similar loans across a number
of platforms to choose the best return
for their risk profile. This increases
competition in the market so that returns
should remain competitive, despite
variances here and there.
How deep and active are
the secondary markets?
A number of P2B platforms have
introduced secondary marketplaces to
allow lenders to sell their loan parts to
other investors. This creates liquidity
in an otherwise illiquid asset class.
Marketplaces simply match buyers with
sellers, and the platform often takes
a small fee (% of the loan value) for
arranging it. There is currently limited
data supporting the effectiveness of
secondary markets, but platforms that
have this facility report success in re-
selling all loans that have been listed.
Issues could arise when investors look
to sell underperforming loans, perhaps
from borrowers whose credit rating
has worsened during the term of the
loan. There is likely to be an obligation
under FCA regulation that platforms
identify loans on the secondary market
that have issues arising that vary their
attractiveness and in the case of serious
problems, block their resale.
What happens if interest
rates rise?
Returns from P2B lending are currently
very attractive, particularly compared to
cash savings or bond yields. The Bank
of England have indicated that rate rises
are on the horizon, but many analysts
believe we will only see a very small rise
(to 0.75%) by the end of 2014 or early
2015. Longer-term, Mark Carney, the
governor of the Bank of England, said
that he expects the base rate in five
years’ time to be “materially below” the
historic average of 5%
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and could be as
low as 3.5% for some considerable time.
Investors must take a view on where they
believe interest rates will be in one, three
or five years’ time and select loans with
higher returns than this, to reward the
higher risks. Shorter-term loans may be
more appropriate for investors worried
about interest rate rises. Interest rate
rises will affect the attractiveness of
P2B lending over the longer-term and
more specifically the resale market for
investors looking for liquidity on fixed
rate loans that have modest premiums to
the current base rate.
How does the platform
ensure deal flow?
Platforms require a pool of investors
willing to lend money, and sufficient
demand from borrowers looking to
raise capital. Investors can easily switch
platforms if there is not a wide enough
choice of opportunities, or feel they
can achieve better returns for the same
risk elsewhere. The same is true for
borrowers, who want to ensure they are
paying the best rate available and that
they can raise money quickly. Platforms
should have a pipeline of opportunities
and oversight of the coming months (or
years). This is achieved by marketing,
repeat business and new business
development. Borrowers that have
successfully raised capital in the past are
likely to do so again. Due diligence must
ensure that investment opportunities
are suitable for investors.
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