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Incumbent institutional investors themselves admit that they have a lot of catching up to do before they can compete with the “upstart” marketplace lending providers. A Morgan Stanley research paper published in June discussed how banks were hampered both by their due diligence restrictions, and by the backwardness of their big data analysis techniques.
A new age
Because new marketplace lenders have less operating costs, they are attractive to borrowers as they are able to offer lower commissions; their risk assessment criteria are less exacting than banks, and they incorporate demographic data into their analysis. Thus they are able to offer lower interest rates to interested investors. At the time, Morgan Stanley analysts explained this phenomenon: “Traditional banks excel at originating loans and underwriting credit, but are slowed by the batch process and portfolio approach to their deposit and loan legacy systems, which are the backbone of the US and global payments system, and by liquidity and capital rules.”
As well as raising the bar in big data analysis, both for existing users and in targeting potential loan seekers, many in the marketplace lending sector have enthusiastically adopted Bitcoin and the blockchain in their payments system. BTCjam was among the first forums to facilitate lending in Bitcoin. Founded in late 2012, in 2013 it gained a wealth of sponsors in Ribbit Capital, 500 Startups, FundersClub and the Bitcoin Investment Trust. By the end of 2014, BTCjam had facilitated bitcoin loans of over of $10 million in value, with more than 100,000 users in over 200 countries. The fact that its due diligence procedure only goes so far as an “optional soft credit check” helps explain its popularity. Bitcoin and BTCPOP both offer bitcoin-denominated loans, of the “instant” and collateral-tied variety. Loanbase, formerly known as BitLendingClub, specializes in bitcoin loans to developing countries, where beneficiaries might not have a bank account.
Marketplaces are creating their own currency, too
Another alternative finance startup has created an entire new currency, LoanCoin, which appreciates as interest is paid on a loan. Once the interest and principal are paid off, the attached LoanCoin is destroyed and exchanged for a currency of the coinholders’ choice, so the currency value is preserved. The system created by Lending DApp allows aspiring lenders, or “officers,” to source and guarantee new loans for coinholders and charge fees for their service. Financial institutions, marketplace lenders and even individuals can act as officers, though their commission and the size of the credit extension is dependent on credit rating. Lending is also at the officer’s own risk and in the event of default or missed payment, collateral is lost. The credit extension, also called a “trust line,” is calculated by applying an aggregate function to an officer’s weighted trust ratings. The network is able to draw on the accumulated knowledge of its participants when assessing lenders’ reputations and creditworthiness.
What the future holds
Max Rangeley, who works for the think tank Cobden Centre that’s creating a Bitcoin exhibition for the European Parliament, thinks the Bitcoin transfer system “blockchain” could one day be commonplace among marketplace lenders. Users could, Rangeley says, insure the asset they use as loan collateral with blockchain. “The blockchain means [marketplace lending] can be de-centralised still further,” Rangeley adds, explaining that alternative finance companies and credit market participants are already considering the idea. Morgan Stanley analyst Smittipon Srethapramote, meanwhile, believes partnerships will be key going forward, no matter what currency loans are denominated in. “The fastest growing marketplace platforms are not really peer-to-peer but institutional investors partnering with tech platforms to cherry-pick borrowers, often with offline marketing,” he says. The future is bright for alternative finance, and while there’s still uncertainty regarding some specifics, one thing is clear: Disruption is coming.
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