The image of a meteorite approaching awaiting dinosaurs is the cover art which illustrates a new report from UK-based Altus Consulting. The report asks how traditional financial service firms can “benefit from the change rather than risk extinction.” The change here is the rapid expansion of P2P lending with close to 100 firms and business volumes growing at 70% per annum (1). Clearly, an obvious attraction for investors is the high return, especially in the current low interest rate climate. The report underlines this by showing a 5.37% average growth in P2P lending since 2006 (2) and noting the positive stimulus offered by the recent introduction of tax free Individual Saving’s Accounts for the P2P market (3). At the heart of the report, is the prediction on how development through to 2020 will affect investment in the P2P lending market.
But first, to underline the longer run investment potential of P2P lending, the report looks beyond the current economic cycle, back to 1995, using UK personal loan effective annual returns net of servicing fees. It finds that on this basis “the Liberum data shows that, since 1995, not only is the yield an average of 6%, but, even through two major economic crises, there has not been a single year of negative net returns. Lending has performed more consistently through recent economic stress tests than either equities or bricks and mortar”.
With the historic value of P2P lending established, the report takes a clear-sighted look at what are the possible obstacles blocking further growth, before considering what form future development might take. The key blockers to growth identified by the report are:
- Economic: with typical loan sizes in the tens of thousands and spread across hundreds of borrowers, it means the cost of advising a client on individual P2P loans is likely to outweigh the scale and returns on the investment.
- Regulation: currently, many firms are operating on interim permissions pending full approval, which may be putting off advisors recommending them.
- Operational standards: given the relative youth of the P2P industry, there is a lack of tried and tested operational standards.
- Potential conflict of interests: due to having institutional and retail investors, there are potential conflict of interests.
- Client underwriting and recovery: the majority of platforms don’t have standard or optimised processes; this is therefore “an area of concern for intermediaries who find it difficult to assess whether one P2P platform is better or worse than another”.
- Standard risk definitions: the P2P lending industry lacks common risk definitions, which makes it difficult for retail investors to compare performance of loans of the same ‘risk’ type across different platforms.
- Data feeds: the normal data feeds used by financial advisers such as FE and MorningStar do not currently include P2P data.
- Risk rating vs established asset classes: as P2P loans are regarded as ‘non-correlated’ assets, this means an adviser has a challenge if they’re to analyse the risk of a client’s portfolio, if it includes P2P assets.
- Over-complicated marketplace: the P2P sector has yet to see the emergence of a convenient ‘supermarket’ for purchasing its financial products
Putting these impediments aside the P2P market currently has two main sources of capital; namely individual investors looking for a better rate of return on their investments, and institutional investors, “predominantly the investment trusts and British Business Bank”. Currently, up to 60% of investment into P2P lending comes from individual investors.
As indicated in the introduction, at the core of this report aimed at financial advisers, is the prediction on how development through 2020 will affect investment in the P2P lending market. Firstly, Altus expect to see “new open ended funds enter the market encouraging new pools of capital, especially from the corporate pensions sector”. Shifting from the current status quo, the report believes institutional investors, with fewer restrictions than retail investors, allowing them to adopt P2P “relatively easily”.
Secondly, the report sees a major development in the emergence of ‘aggregators’ providing a one-stop-shop with access to multiple P2P services. The report’s authors predict that it’s probable “the majority of P2P business, both retail and institutional, will be transacted through them by 2020”.
While the FT’s Khadim Shubber ponders whether this will mean that “maybe the P2P lenders are the dinosaurs after all?” (4) for founder and CEO of Welendus Nadeem Siam, the future for P2P lending is still at its growth stage: “There are still gaps in the credit market that peer-to-peer lending haven’t exploited, which mean the peer-to-peer sector will continue growing over the next few years. This is in addition to the general public awareness of peer-to-peer lending, which is still very low. Bring these two factors together and you can get an idea of the scale of growth the peer-to-peer lending sector will face.”
(1) AltFi, 28th July 2016.
(2) AltFi Data shows the average returns since 2006 for P2P loans is 5.37%.
(3) From April 2016, lenders in the UK enjoy tax-free interest thanks to the Innovative Finance ISA (IFISA), which includes loans arranged through peer-to-peer (P2P) platforms that have full FCA authorisation, and ISA management approval from the UK’s tax authority, HMRC.
(4) ‘P2P will destroy the world, and soon’