The COVID-19 Diaries – Day 16 – Peer to peer lending or peer to peer default
Risk by default has a negative connotation in professional language. Oxford defines the noun risk as the following.
“The possibility of something bad happening at some time in the future; a situation that could be dangerous or have a bad result.”
However, every coin has two sides and hardly anybody sheds light on the other side better than Sir Richard Branson. “We should all learn to embrace risk rather than fear it. It is one of our greatest learning tools.” And yet, there is there is still a pivotal part of the puzzle is missing.
“Risk is like fire – If controlled, it will help you; if uncontrolled, it will rise up and destroy you.” Whereas Theodore Roosevelt probably was not debating about the importance of risk management in financial institutions, his thoughts highlight the advantages and pitfalls of unchecked risks.
Peer-to-peer or P2P lending platforms definitely checked out the box for entrepreneurial spirit, but their risk management practices has been questioned in recent years – and in recent years there was a record bull market. Today, it is not quite like that.
As coronavirus disruption continues to squeeze private individuals, micros and SMEs, P2P platforms have reported a hike in demand for credit but the liquidity concerns of P2P firms compelled them to decrease lending activity.
What is next?
Most of the P2P platforms have a primary, loan origination market and a secondary market. It is a similar set-up to those at the stock exchanges. Just a notch simpler. And much less regulated.
Mintos, one of the worldwide leading P2P platform with over €5b invested exhibited the following trends in recent days.
- Loan offers on primary market tanked and new originations ask for over 20% interest
- Secondary offerings rose with originators accepting 20% to 30% discounts on loans
Through most of the P2P platforms, one may provide loans from a developed economy to an emerging country. Therefore, short-term FX depreciation might play a role in loan defaults as well.
How does risk management comes to the picture?
Capital invested via P2P is not traditionally principal protected. Enforcement on defaulted loans is ambiguous and regulatory authorities have not established a stringent framework for such platforms so far.
The European Commission states that one of the key features of P2P platform is that „You may get a loan when refused by a bank“. Which may suggest that if one’s credit qualities did not pass the mark at a bank, it may be just sufficient for the risk appetite of P2P lenders. As one of the risk management procedures, the British Financial Conduct Authority requires P2P lenders to „Assess investors’ knowledge and experience of P2P investments where no advice has been given to them“.
As a bottom line, there is not much institutionalized risk management procedure in P2P lending and also there is no strong push from the regulatory side to establish one. Yet, the primary activity of P2P firms is to provide liquidity to the market via matching lenders and borrowers. Whereas on the other side of the road, banks are functioning in one of the most heavily regulated industries.
If P2P platforms aim to compete with banking entities they may not only have to exhibit a profitable lending business but long-term stability as well. In the wake of a downturn, P2P companies may re-evaluate current risk management procedures to protect all stakeholders, especially loan underwriters.
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The views, information, or opinions expressed in this blog series are solely those of the individuals involved and do not necessarily represent those of PwC Austria and its employees. PwC Austria does not give any representation or warranty of any kind (whether expressed or implied) as to the accuracy or completeness of the information contained in this blog series. It has been prepared solely for general informational purposes. Nothing in this document should be construed as advice to proceed or not to proceed with transactions or any other type of decisions.