Default management is built into the ecosystem of each and every peer-to-peer lending platform. But for banks, it is a different story.
Access to the Financial Services Compensation Scheme (FSCS) and the recent availability of government-backed business loans means that banks have a substantial safety net in the event of a defaulted payment on a loan.
Yet even with this state backing, banks are starting to worry about the impact of mass defaults, once the financial recession takes hold.
The Office for Budgetary Responsibility (OBR) has predicted that by the end of November, £53bn worth of Bounce Back Loans (BBLs) will have been granted to small businesses – and up to 40 per cent (or £21.2bn) are expected to default. As a result, the Treasury has entered into talks with banks about creating a ‘code of conduct’ to deal with rising default rates.
So far, a few solutions have been mooted. These include extending BBL term times for up to 10 years, to give business owners more time to pay; streamlining the recoveries process; and allowing banks to call up the government’s guarantee at an early stage of the default process.
For P2P industry stakeholders, these solutions may sound familiar. Unlike big banks, P2P lending platforms have been laser focused on default management for the past 15 years, and the results speak for themselves. Despite taking on a wide range of borrowers with varying risk profiles, the default rate across the entire P2P industry has consistently remained at around two per cent.
P2P lending platforms have done this by implementing extremely strict due diligence and credit checking processes, and by working closely with their borrowers to ensure that they are able to meet their financial obligations – even offering payment holidays in the wake of the coronavirus crisis.
By taking collateral in the form of a property, an asset or a personal guarantee, P2P platforms can reduce the risk of a default even further. Some platforms will also maintain a provision fund which can be used to cover off unexpected or unpreventable losses. For instance, in September 2019, Assetz Capital dipped into its provision fund to refund investors in its defunct wind turbine loans.
And then there is the technology. P2P lending platforms have their roots in the world of fintech, and this is reflected in the innovative technology that underpins each platform. In fact, it was recently revealed that Metro Bank was in acquisition talks with RateSetter, primarily as a way of obtaining RateSetter’s technology.
The right fintech solution can vastly reduce the amount of time it takes to approve new loans and implement loan recoveries. Funding Circle has credited its instant decision lending technology for the success of its participation in the coronavirus business interruption loan scheme (CBILS). Within a matter of weeks, the lending platform had facilitated a 16 per cent share of the CBILS market, valued at approximately £460m.
Due diligence, collateral, provision funds and technology have all helped the P2P industry maintain low default rates and offer inflation-beating returns to investors. But banks are inherently different, with different regulations and different goals. Nonetheless, they could learn a few valuable lessons from the P2P school of default management.
Namely, to treat their borrowers as real people and work to help them manage their repayments across a reasonable period of time; and to invest in the sort of technology that helps speed up their decision-making processes and oversight capabilities. Open banking has still not been fully embraced by the banking industry, but it could be an invaluable tool when it comes to credit checks and debt management.
P2P platforms were born out of a sense of frustration with the traditional banking industry – the coronavirus crisis could be an opportunity to show the entire financial services sector just what it can do.