A silver lining of the 2008 financial crisis was the birth of the marketplace lending model. This connected retail investors willing to lend with businesses and consumers in need of capital, for what were better risk-adjusted returns in a time of historically low interest rates.
The trend has continued since, whereby peer-to-peer (P2P) lending commonly offers much higher returns than those available in traditional savings products. Despite the success that the P2P sector has had over the past decade, such as lending over $8.7bn globally in 2019, platforms are now reverting to institutional channels of lending, primarily due to its convenience relative to crowd-lending.
The UK’s Financial Conduct Authority (FCA), which has regulated the sector since 2014, has recently introduced stricter rules, having previously found evidence of “poor practice among platforms in relation to information disclosure, charging structures, wind-down arrangements, and record keeping.”
Despite the implemented rules appearing to strike a balance between protecting retail investors and allowing for innovation, the changes would offer greater protection to future lenders. This would inevitably make the affiliated legal risks and costs too high for most platforms who can easily reduce risk and increase profitability by turning to institutional models.
Leaving the P2P sector
Arguments surrounding increased profitability appear a more plausible explanation for the decision to leave the P2P sector.
Jill Sandford, chief executive of the Business Loan Network, one of the ThinCats Group companies, stated: “The number of loans funded by the P2P platform has fallen significantly over the last two years, and it is no longer cost-effective or practicable to raise funds in this way.”
Consequently, the last six months have seen the likes of ThinCats, Landbay, and Harmoney close services to retail investors. Their retreat has, however, signaled competitors such as Squirrel to double down on the P2P model, stating that they were making it both easier and more accessible for retail investors to get better returns, in the hope of acquiring retail investors left behind.
Covid-19 has the potential to further augment the shift away from the P2P lending model, as the opportunity to lend to businesses and consumers in need of capital over the last three months has been restricted by many platforms such as Funding Circle.
Favouring institutional investors
The pause in lending and borrowing across P2P platforms was put in place to maintain the reputations and competitiveness of the platforms, whose brands and business models would have been irreparably damaged if retail investors had been allowed to withdraw from obligations and contracts due to the increased uncertainty they faced as a result of Covid-19. Such erratic and unpredictable behaviour has led to marketplace lending platforms favouring institutional investors, a trend that is likely to persist long term for two reasons that threaten to cripple the P2P sector.
Firstly, the inability to gain a return on savings during this time, as payment holidays are extended to businesses is likely to have lenders return to traditional savings products that offer them stability and assurance, that they may stay loyal to long term. GlobalData’s 2020 Financial Services Consumer Survey shows that when UK consumers suffer financial hardship, over 50% are likely to turn to traditional banks and building societies due to the trusted reputations they have and security they offer their customers.
Secondly, businesses that have lost access to capital from retail lenders are likely to have gained access to institutional investment or government-backed schemes such as the Coronavirus Business Interruption Loans Scheme and Business Bounce Back Loans to acquire the capital they need. These are changes in financing structure that could persist long term.
As we emerge from this period, competition from marketplace lenders is likely to be fierce, and price competitiveness will be key to acquiring lost customers and business. Such competition will favour institutional investors and further enhance the shift away from the P2P model.