The Peer to Peer Lending Market

The Peer to Peer Lending market is the largest and most innovative new industry within modern lending, though it is still largely neglected by the media. P2P’s influence, financially and socially, is very significant, and as time goes by it will become undeniable.

Other forms of crowd funding, platforms such as Kickstarter, are ubiquitous in the media. But even the largest Peer to Peer platforms get very little attention by comparison.  Kickstarter has been mentioned in no fewer than 1,770 articles on BusinessInsider, while Lending Club received less than 25% of that amount.   

Global Peer to Peer Lending markets generate over 0.5B USD in loans every month, for individuals and businesses in dozens of countries. These numbers grow steadily every year.

P2PL (Peer to Peer Lending) has helped businesses sustain themselves and grow during times of crisis, when “… standards on business lending at commercial banks tightened substantially … The steady increase in peer-to-peer lending suggests the potential for much more growth” (Federal Reserve).

Unlike crowd funding projects like Kiva, which are non-profits, and Kickstarter, which has no business orientation for its respective donors (rather than investors), the Peer to Peer Lending market isn’t “glamorous”. It’s a means of making money for investors and the platform’s owners (taking set-up fees, and/or percentage of repayments). But it’s also an alternative method of funding small businesses, which have been ill-served by banks when they were entirely reliant upon them. For these businesses and individuals who have experienced this refreshing innovation in lending, this change is welcome.  

 

Here is a brief, and partial, historical overview of the industry, based on infographics from PeerToPeerLendingUK.com:

• In 1885, Joseph Pulitzer raises over $100,000 to build the Statue of Liberty, from the readers of the New York World. This is one of the world’s first crowdfunding efforts (and successes!).
• In 1984, Grameen bank is founded by M. Yunus, and sets a cornerstone for the world of P2P Loans. In 2006, Yunus receives a Nobel Peace Prize together with his bank, for the wonderful “bank for the poor” concept.
• In 2005, Zopa is founded in the UK as the world’s first Peer to Peer lender.
• In 2006, LendingClub is founded in the US, as the first American Company to offer Peer to Peer Lending.
• In 2006, Propser is established in the US.
• In 2007, the first Swedish platform, Finansinspektionen, is established.
• In 2008, an unprecedented economic crisis takes Peer to Peer lending up a notch, as businesses and individuals are struggling at finding financing, and banks raise loan standards.
• In 2008, Estonian company Bondora is established – the first P2P Lender in Estonia.
• In 2009, RateSetter’s holding company, Retail Money Market Ltd, is incorporated.
• In 2010, one of UK’s leading companiesm, Funding Circle, which focuses on the small business lending segment, is founded.
• In 2011, Quakle, which held great promise in the Peer to Peer lending market, ceases operations. The reason? A 100% default rate during its one year of operation.
• In 2013, Funding Circle starts operating in the US market.
• In 2013, LendingClub passes the $1.5B lent mark. The default rate for this year is a mere 3.6%.
• In 2013, a survey in the UK indicates that 77% of businesses either use P2P Business Lending or are likely to use it in the future.
• In 2013, the British government starts lending money to businesses via FundingCircle. They back approximately 10% of all their loans.
• In 2014, LendingClub makes an IPO and raises $900M, the largest IPO in the US that year. Lending Club also starts offering business loans, not just individual loans.
• In 2014, Sofi is introduced – a US platform for P2P Student loans and mortgages.
• In 2014, the British Financial conduct authority releases a new regime for all crowdfunding companies, including P2PL.
• In 2014, New Zealand’s government approves Peer To Peer Lending.
• In 2014, The United Arab Emirates first ever P2P lender, Beehive, is established.
• In 2014, Wells Fargo bank forbids employees from investing their money using P2P platforms.
• In 2014, LendingWorks is opened, offering a lower representative APR than other Peer to Peer Lenders (5.2% for an average loan).
• In 2014, Pret d'union passes the 60M Euro mark in investments.
• In 2015, Funding Circle passes the £500,000 mark.
• In 2015, RateSetter passes the £500,000 mark.
• In 2015, Propser passes the $2B mark, and officially becomes the largest American Peer to Peer lender.
• In 2015, it is estimated that more than 550M Dollars are issued in peer to peer loans every month.
• In 2015, pension withdrawal regulation in the UK changes, and will flood the money with available funds for investments, which should impact the Peer To Peer Lending market.
• In 2015, Money & Co. delivers a big promise to the P2P industry.

How does Peer to Peer Lending work?

Bids are made in a reverse auction model. Investors choose which individuals or businesses they would like to lend their money to.  Each individual and business is assigned a risk score (a term which differs among different operators). The higher the risk, the higher the interest that individual or business will be paying for a loan.

What’s the Appeal of P2P?

For borrowers, these are two main appealing elements:

A Quick Decision. Some platforms approve or deny in less than a day. If you need money quickly, it is a far favorable alternative to Payday loans that have been earning a bad reputation at every turn for usurious practices (view this, this, and this, for example).

Algorithmically Calculated Risk Score. Each Peer to Peer lending company uses a slightly different algorithm to calculate an individual or businesses’ Risk Score, which will determine whether he/it is eligible for a loan, and at what rate of interest.

This allows individuals or businesses that have been rejected by banks to get a loan. Better yet, it sometimes allows businesses to get better terms than they would through banks and traditional lenders.

For investors, it is even more attractive. As the interest rate in the USA stays below 1.0%, people are looking for alternative investment options. Peer to Peer lenders provide an average interest rate 5% annually.  Though this could be considered a risky path to take with your money, it is important to remember two things:

Inflation dictates that very low interest investments are not a feasible option. Simply put, if you do not include an element of risk into your investments, they will deliver negative returns.

The default rate for loans with the top-notch providers is low. In 2013, LendingClub reported less than 4% defaults. According this article, Zopa has a default rate of 0.17%.

Are There Other Similar Platforms?

A sister market to Peer to Peer lending is the B2B “quick loans” market. From the borrower’s side it’s essentially the same process. You qualify for a loan online and are assigned a risk score. You get your response quickly, and can potentially get better terms than you would have at a bank, with no fees or penalty for early repayment. This sub-market is covered in-depth here (UK).

Gaps of information on the topic

Due to poor coverage this market has been getting, considering to its size and significance, leading financial sites still don’t treat P2PL and B2B like important and even sometimes vital staple products.

Unsecured quick business loan companies get even less traction that that. Big sites like MoneySuperMarket.co.uk don’t even bother covering the industry. The same goes for MoneySavingExpert (the most relevant page on their site is a discussion from 2009).

There are hardly any valuable resources for clients looking for comparison. Even P2PMoney (the authoritative UK site for peer to peer lending) doesn’t cover B2B lending, though this industry is soon to be investigated by Businessloancompanies.com, launching in June 2015, and reviewing US & UK unsecured business loans.

A Positive Outlook For the Future

The market is experiencing constant growth, and is still fairly new. With experience, more companies will better predict their losses and defaults, becoming more attractive to investors. Just as LendingClub is now a public company receiving a lot of attention (here and here are a few examples), more individuals and small businesses will become aware of the opportunity.

As the market grows, the information gap will eventually disappear. Financial websites want to cover the areas delivering the most income for them. As the Peer to Peer Lending market grows, so will its advertising budgets, and everybody will want to get a piece of the action.

Will Peer to Peer Lending Replace Bank Loans? It’s too early to say, but it’s hard to imagine, at least in the near future. They will likely control a specific sector of the lending industry, an undeniable force to be reckoned with.