Banks have a procedural mechanism in place which enables measurement of credit worthiness and credit appraisal based on standard credit score like the CIBIL score in India. However, for a vast segment of the population in emerging economies like India, there will be no credit history or credit score available; which creates problems for those individuals to get credit from banks or institutional lenders. Also, there is the scenario where people with low credit score may have urgent loan requirements and they may have the ability of repayment as well, but their loan applications get rejected by banks and institutional lenders owing to the low credit score. This is because it factors in only the existing loans/cards and the corresponding repayments and does not factor in multiple other parameters that may impact the creditworthiness of a borrower/applicant.
In markets like the United States of America and United Kingdom, these factors have enabled the outset of peer-to-peer lending platforms like Lending Club, Prosper and Zopa which have loans worth billions of dollars in their books with high rate of repayment and minimal rate of default. These lenders while appraising loan applications from borrowers take into consideration several other factors in addition to the credit score of borrowers enabling them to provide small ticket loans to individuals who may fail to get the financing from banks.
For peer-to-peer platforms, besides the aspect of borrowers there is also the investor engagement angle. The peer-to-peer lending organizations are enabling investors to earn interest on the invested amount by allocating it to the loans they have in their portfolio. They have grading mechanism for their loans which are streamlined in accordance with the risk-associated with the loans, and based on the investment behavior of an individual there are choices of investing in loans of lesser risk with lesser interest rate, and hence lesser returns, and high risk loans with higher returns. They have also implemented auto-investment algorithms where the investor can earmark the amount for investment and the algorithms associated with the platforms take care of investing the amounts, and creation of portfolios for maximizing returns while taking into consideration the risk attitude of the investor. The returns on investment for peer-to-peer lending platforms are usually much higher than bank deposits and government instruments and are hence attractive for investors.
In countries like India also there are quite a few peer-to-peer lending platforms that have come into the market like Faircent etc. which are also collaborating with non-banking financial corporations and facilitating provision of loans to borrowers. However, the algorithm based play of peer-to-peer lending platforms like in USA, UK or European markets is still a gap.
Keeping in mind the advent of the peer-to-peer lending platforms and the huge loan books handled by the peer-to-peer lending platforms there have been modifications and new lending regulations for peer-to-peer lending platforms introduced by central banking bodies like Federal Reserve etc. In fact, even The Reserve Bank of India has published directives on the same. Also, considering the growth in peer-to-peer lending platform volumes established banks are also collaborating with the platforms.
For example, in 2015, Lending Club, a peer-to-peer lending platform in the United States, partnered with BancAlliance, a national consortium of 200 community banks in USA to offer co-branded personal loans to customers of community banks. Also, Goldman Sachs partnered with peer-to-peer lenders SoFI, Marlette, Earnest for loan securitization. JPMorgan entered into an institutional partnership with Avant, OnDeck, Prosper for loan securitization.
There are several industry trends in peer-to-peer lending which also point towards a greater collaboration between peer-to-peer lending platforms and banks. These are:
Consolidation: The peer-to-peer lending platform is maturing and this is leading to increased consolidation among the lenders or between the lenders and the banks as with waning venture capital banks open up a new avenue for the platforms to expand their business.
Securitization: Peer-to-peer lending platforms are increasingly collaborating with banks for securitization of the loans and they are also looking at greater investment by banks, NBFCs and fixed income channels like pension funds.
Diversification: The peer-to-peer lending platforms are diversifying their revenue streams – for example providing alternatives to Payday Loans, Healthcare loans etc. and collaborating with banks enables the peer-to-peer lending platforms to reach out to new customer base and helps in their diversification.
Increased regulatory oversight: Almost all the leading economies have come up with directives or regulations on peer-to-peer lending and it is beneficial for peer-to-peer lenders to partner with established banks for guidance regarding regulatory compliance.
Also from the bank’s perspective, collaborating with peer-to-peer lenders helps banks to improve their credit appraisal models, improve their online lending strategy, offer new products at low costs to their customers via peer-to-peer lenders.
Hence, rather than a predatory model of eating into the bank’s lending share, the peer-to-peer lending platforms offer an opportunity to banks to build a collaborative model where both can exist without cannibalization and can complement each other’s strengths to build a democratic, inclusive lending environment that also positively impacts balance sheets of both the entities.