One year on from the launch of Open Banking, Danielle Levy investigates the impact of the data-sharing initiative on the peer-to-peer lending industry…
OPEN BANKING launched to great fanfare in January 2018, promising to boost innovation in financial services and improve competition, for the benefit of fintechs and consumers alike.
The initiative, which mirrors the EU’s Revised Payment Services Directive, mandates high street banks to share anonymised customer data with approved third parties (subject to customers providing their approval).
While the project has the potential to create significant growth opportunities for peer-to-peer lenders, things got off to a slow start. When the new regulations were introduced on 13 January 2018, only four out of the UK’s nine largest banks were able to meet the deadline.
Imran Gulamhuseinwala, Open Banking implementation trustee, recently said that the initial Open Banking launch made “a tremendous step forward” but “was not as good as it should have been” as “the customer journey was not great”.
“It worked but it was a little bit hairy,” he said at the Open Banking Expo in London.
“But actually my work with the government and the banks means that we’re actually going to fix that.
“More than just building technical standards but building customer experience.”
Although business finance aggregator Funding Options was one of the first companies to become authorised for Open Banking, the management team took the decision to wait until the second half of the year before taking action.
“We knew the technical environment simply wasn’t mature enough, as the APIs (application programming interfaces) were going to brittle, unreliable and unstable,” says Funding Options chief executive Conrad Ford.
“I think a lot of the more grownup start-ups will have taken this approach because it would have taken up a lot of development time with little real commercial benefit.”
However, the company became more serious about exploring the opportunities created by Open Banking during the second half of 2018 after taking part in innovation charity Nesta’s Open Up challenge.
This competition was set up with the backing of the Competition and Markets Authority, offering a £5m prize fund. It aimed to encourage fintech companies to build innovative propositions using Open Banking infrastructure to benefit smaller businesses.
The first phase took place in 2017 and provided companies with access to a sandbox of anonymised small business data. Ford says this provided Funding Options with the opportunity to carry out research and development ahead of the launch.
During phase two of the Open Up Challenge in 2018, they were able to use live APIs.
“What we discovered in that period is that the APIs were still pretty immature,” Ford explains. “I think there needs to be a reality check about this – and I don’t think we should be beating up the banks too much about this as it is a complex and high-risk environment that they are building here.”
However, the good news is that he believes the situation is rapidly improving. In November 2018, a small business loan was provided via Funding Options using Open Banking data. It is believed to be the first of its kind. A Kent-based beauty salon was able to borrow £10,000 from alternative lender Iwoca in the space of one hour and 23 minutes.
Funding Options uses Open Banking data to fast-track small- and medium-sized enterprise credit approvals. It draws on 40 data points to detect how a small business is performing, as well as the likelihood of a default based on a number of factors. These include current account performance, cash flow and behaviours.
In Ford’s opinion, one of the biggest challenges associated with the initiative is the fact that consumers and small businesses have been told not to share their data for the past few decades, so it will take time to reverse this mindset.
Nevertheless, he believes that Open Banking will ultimately level the playing field between banks and P2P lenders.
“One of the things that is often misreported is the perception that banks are the lumbering dinosaurs that don’t understand technology, and online lenders are very data and technology-driven,” he says. “In reality that is not true as the banks have far more data available than alternative lenders because they see all the bank account data.”
Read more: Open Banking set for 2019 surge
However, this data is now becoming available to P2P platforms through Open Banking. Ford notes that one of the biggest disadvantages associated with banks is that they take a one-size-fits-all approach with smaller businesses.
Over time, he hopes that P2P lenders will be able to draw on data to provide more tailored solutions to different small business segments.
“I expect to see the emergence of specialist lenders which can out-lend the banks for particular segments and circumstances,” he adds.
Chris Gorst, challenge prize lead at Nesta, notes that Open Banking data can provide P2P lenders with real-time, authoritative information on the borrower, which means they can make better and quicker lending decisions.
“They are no longer relying on what might be quite old credit reference agency data or scanned and uploaded copies of bank transactions,” he says.
With time, he suspects that P2P platforms will start to prise business away from banks, which were historically approached by their small business customers for loans purely because of their existing relationship as their current account provider.
“Pre-Open Banking, it was more difficult or less secure for a small business to expose itself to other potential lenders,” Gorst explains. “The opportunity in place for P2P lenders is to deepen that relationship with their small business customers, so it is not just transactional.”
By this, he means that a P2P lender will be able to use a small business’s data and wider data to help them to predict what is coming up. This could involve foreseeing any cash flow challenges or to think about future financing needs in advance to ensure the company gets the best possible deal.
“It is about really helping the small business to manage their whole financial lives,” Gorst says.
He adds that P2P lenders can strengthen their relationships with businesses by providing ancillary services outside of core lending. This could include foreign exchange, accounting assistance or invoice discounting.
Chris Hancock, chief executive of Crowd2Fund, agrees that Open Banking data can significantly enhance a P2P lender’s due diligence process.
“The current process involves manual input of accounts and bank statements. It is very cumbersome and takes time, whereas the ability to have that vast amount of banking data allows you to perform better credit decisions,” he explains.
He says another benefit associated with the initiative is that it can reduce transfer fees as well as the time taken to complete transfers because Open Banking can be used to automatically transfer money from one bank account to another. This could prove particularly helpful for consumers and P2P investors.
Zopa took the decision to plug into Open Banking shortly after the initiative’s launch and it is already reaping the benefits. It launched its income verification tool when Open Banking was unveiled last January.
“Over half of people who need to verify their income to take out a loan with us choose to do so by connecting their bank account, and allowing us to access their transaction information automatically,” explains Didier Baclin, chief innovation officer at Zopa.
“This enables us to offer a more streamlined application process and a speedier service for customers.”
Zopa has also developed a money management app powered by Open Banking, as part of its bank launch.
This new app allows individuals to stay on top of their finances by aggregating their bank accounts from different providers. “This tool will provide customers with powerful data-led insights and actions to help them keep track of and manage their money more effectively,” Baclin says.
The P2P lender believes that the key to capitalising on the opportunities presented by Open Banking will come down to helping consumers to understand the value of sharing their data.
Following a slow start for the Open Banking initiative, what is likely to lie ahead?
Hancock expects to see the emergence of a new generation of challenger banks.
“I think there is going to be a new wave of challenger banks which don’t have to spend millions on regulatory fees because they can essentially use Open Banking to provide enhanced capabilities,” he adds.
Meanwhile, Gorst hopes to see more of a marketplace structure emerging in retail banking – where consumers can easily identify the best providers for the services they require.
“Rather than having everything packaged up with one provider, they can find the right product across the whole market,” he predicts.
One thing that is for sure is that the alternative finance industry must start to explore the potential opportunities created by Open Banking – before it is too late.
“There is no doubt that once Open Banking is common and endemic it will be a game-changing technology for the lending sector,” says Ford. “We absolutely intend to be a part of it and if we aren’t we will get left behind.”
This article featured in the January edition of Peer2Peer Finance News, available to read online.