The new regulations have already sparked change in the P2P sector, but is this just the beginning of a brave new world of platform oversight? Kathryn Gaw reports…
In the world of financial regulation, caution is king. And this is particularly true at the Financial Conduct Authority (FCA).
In an effort to keep pace with the rapidly growing peer-to-peer lending market, the FCA has spent the past year at the frontlines of the industry: drafting – and then implementing – new rules for crowdfunding, crowd bonds and P2P loans, making surprise visits to offices, consulting with platform bosses and doing everything in its power to identify bad actors while protecting retail investors.
It has been a somewhat controversial intervention and the regulator has been accused of being too heavy handed in its approach – particularly when it comes to investor restrictions. Some platforms have criticised the 10 per cent rule, which bans retail investors from placing more than 10 per cent of their total investment portfolio in P2P loans.
This criticism reflects widespread concern that the P2P industry could be forced to rely on institutional investment, as retail investors find it more difficult to access P2P platforms and build strong portfolios. But as the dust settles on the new regulations, more and more industry insiders are coming around to the FCA’s vision for the sector. “Retail investors are not being pushed out, they’re being restricted,” says Frank Wessely, partner at insolvency specialist Quantuma. “They will have less choice than before but if I were a retail investor, I would be more comfortable investing in P2P because of these regulations.”
Ian Anderson, chief operating officer at ArchOver, was not a fan of the 10 per cent rule at first, but two months after the rule was introduced, he supports the concept. However, he warns that “we don’t believe it will stop the small investors being attracted to high interest rates and not taking the time to properly educate themselves about the risks.”
Although the regulations apply equally to every player in the P2P industry, there is still a lot of variety in how the rules are actually implemented. This is most obvious when it comes to the appropriateness tests. While some platforms ask the user to self-identify as either a restricted, sophisticated or professional investor, others are much more thorough – asking each prospective new member to answer a detailed series of questions before they can even open an account.
Peer2Peer Finance News has completed a number of these tests and it’s true that the length and detail of the questionnaires vary from platform to platform. It is possible that the nature of these appropriateness tests could deter new investors from considering P2P, but so far this does not seem to be the case. A RateSetter spokesperson would only say that “the appropriateness test is working”, while ArchOver’s Anderson said that the platform had received “very little” feedback from its users regarding the new regulations.
Ablrate’s appropriateness test has been described as “trickier” than most, but in line with other platforms, this does not seem to have negatively impacted on lenders’ appetite. In fact, the early signs suggest that the appropriateness test – along with the other new regulations such as the 10 per cent rule, and the requirement for all platforms to have a wind down plan – have actually bolstered confidence in the P2P sector.
“We’ve always believed regulation is important for the industry,” says a spokesperson for a large P2P platform. “It raises industry standards and strengthens customer protections.” “The regulations have had a positive impact both internally in the sector and externally in terms of their perception,” adds Wessely. “I think gradually you’ll start to see financial advisers becoming more comfortable and seeing more opportunities in that space.
Obviously P2P won’t be suitable for every client but I think you’ll start to see financial advisers start to recommend the more corporate and stable end of the sector. “You’ll see a more stable, more managed, more transparent sector falling into place with the rest of the FCA and Prudential Regulation Authority-organised environment.”
The adviser market has always taken an arms-length approach to P2P lending, so it will be interesting to see if tighter regulation translates into greater interest from independent financial advisers (IFAs). Late last year, several platforms, including CrowdProperty, RateSetter and Blend Network predicted a spike in IFA interest, and RateSetter is set to launch a dedicated IFA portal this month. Institutional investors are also set to play a larger role in the P2P sector in the wake of the new FCA rules.
ThinCats and Landbay have already exited the retail market to focus entirely on institutional money instead. Increased investment via IFAs and from institutions would certainly shake up the P2P landscape, affecting everything from the way platforms market their products, to the loans they pick and the returns on offer. This expectation of change has left many platforms predicting that the FCA will tighten up its regulations again as early as this year.
One platform chief executive told Peer2Peer Finance News that the FCA has already begun calling their office to ask for feedback on the implementation process, suggesting that the regulator is already thinking about the possibility of either reviewing or amending the new rules. “The nature of regulations is that they will evolve over time,” says David Bradley-Ward, chief executive of Ablrate.
“The only issue we have with that is that any new regulations need to be proportionate. If regulation becomes too burdensome or disproportionate innovation in fintech will die quickly in the UK and move elsewhere.” ArchOver’s Anderson predicts that “more rules and updates are highly likely by the end of 2020, especially if any more platforms fail,” while Wessley says it is too early to speculate as “the FCA will want to see how this teething process goes and which particular challenges the platforms are facing.”
But rather than tightening or changing the existing rules, the consensus seems to be that the FCA might start to segment the P2P market according to perceived risk, or target investor. For instance, property-backed platforms could be subject to different rules than business lenders or invoice finance providers. “I can’t see the FCA tightening up any of the rules,” says Jonathan Segal, partner at law firm Fox Williams.
“They are already relatively tight, but they may look at how individual platforms respond to the rules and they may make different requirements applicable to different types of platforms. “They could be sorted by borrower type, by whether there is security or not, or by whether they are pricing platforms or discretionary platforms.
This would make sense given that there are very different types of risk involved and different target investors.” Bradley-Ward believes that the FCA is still missing a “glaring hole in the regulations in regard to secondary markets and liquidity,” which will have to be addressed sooner rather than later.
“A good deal of the issues we have seen on P2P platforms could have been solved if there was an efficient secondary market,” he says. “With such a market available, lenders would have the chance to rebalance their portfolios for risk, price discovery in delinquent loans would be more transparent and fairer, and – with the right technology – loans could be traded by a wider ecosystem of liquidity providers.
Obviously, we are biased as that is exactly what we will be launching shortly, but that does not detract from the fact that it is an obvious area of improvement.” There is clearly still plenty of room for the FCA to increase its oversight and take an even more hands-on approach to the alternative lending sector, but this is unlikely to happen within the next few months.
In March, the FCA’s chief executive Andrew Bailey will leave the City watchdog to become Governor of the Bank of England and a new era of leadership will begin at the FCA. Will this lead to more stringent regulations, or a segmentation of the existing market? It is too early to say. But as ISA season approaches, the real-world impact of the new rules will soon become clear and the FCA will paying close attention to the investor experience and associated risks.
In the meantime, if tighter regulations lead to greater investor confidence and a wider pool of customers, platforms may find that they are much less resistant to the next round of updates, whenever they may arrive.