The vibrant fintech scene in Singapore for the past 2 to 3 years has been growing, with much credit due to the Singapore government. Singapore is making a determined effort to maintain and entrench its status as one of the world’s leading global financial center.
The relevant authorities such as MAS (Monetary Authority of Singapore) has widely been acknowledged as forward looking with regards to supporting the growth of the fintech industry in Singapore.
The financial industry contributes 12.5% of Singapore’s GDP as of 2015 and is considered one of the key pillars of our economy.
The disruption of traditional industries is in full swing globally and the financial industry with decades old large banks and financial institutions is ripe for massive disruption as most players in fintech today would believe.
Some of the common sub segments of the fintech space includes payments and remittances, blockchain technology, and peer to peer lending (P2P). Here’s a list of the top 30 fintech startups locally: http://fintechnews.sg/top-30-fintech-startups-in-singapore/
What is P2P lending? It is basically a form of crowdfunding where a group of retail investors can pool their individual funds and lend it to companies for working capital.
There will be usually a crowdfunding platform which will consolidate these investors’ funds and facilitate the loan origination. These platforms will list potential companies and SMEs as borrowers on their platform. Investors get to view these borrower’s basic financial profile and key statistics while deciding whether to invest in the listing.
The basic premise of crowdfunding lies in disruption of lending which was traditionally carried out by the banks. On a very simple illustration, our local banks pays interest of less than 1% p.a for fixed deposits. However, banks’ business loan interest to SMEs can be as high as 11% p.a.
In an over-simplified context, the core business of banks are utilizing deposits from savers and lending them to companies or other individuals, with a high markup on interest which represents the bank’s net interest margin.
Most crowdfunding platforms aim to disrupt this traditional lending conduit by establishing a platform marketplace where borrowers and lenders can come together to facilitate borrowing/lending bypassing the high margin markup of the market intermediaries, the banks.
All parties are supposed to benefit in this arrangement with investors getting higher returns, borrowers securing loans which might otherwise be rejected from banks and the platform receiving a slice of the loan origination fees.
Some crowdfunding investors have reportedly managed to hit a return of 12% p.a. for 2016, which is a very attractive rate of return in today’s low yield market.
All this looks good on paper but will P2P lending take off in Singapore as a legitimate and viable investment asset class? Should the banks be concerned about crowdfunding disrupting their dominance in their core business?
It’s a mixed bag of reviews for the nascent P2P lending industry in Singapore currently. Globally, P2P lending remains dominated by US and UK, whom were the first to kick off P2P crowdfunding on a large scale. China played catch up in this domain but is now a viable contender itself with over 332 platforms operating within. Chinese crowdfunding platforms has also attracted millions of VC capital in the last few years.
Lending Club, one of the leading and earliest pioneer in P2P lending in the US originated loans of $8.4 billion in 2015. It is also a listed company with a $9 billion valuation. Without a doubt, Lending Club is a successful case study of P2P crowdfunding platform that exited successfully via IPO.
However, it’s not possible for Singapore’s current crowdfunding platforms to emulate the success of Lending Club and other similar platforms as Lending Club’s borrowers are predominately individuals. Singapore has regulations in place and P2P lending from individuals to other individuals will most likely fall under the purview of the Money Lender’s Act. Singapore also does not have a large enough market size to scale easily within the domestic scene.
All crowdfunding platforms operating in Singapore now are facilitating loans to SMEs and companies. Credit risk is higher as most of these SME borrowers might not be eligible for credit from mainstream banks.
There are inherent platform risks as well with previous cases of suspected fraud and scams by entities that fronted themselves as crowdfunding platforms promising investors of high returns. Some of the loans defaulted with fraud suspected and the police were alerted.
For the slightly more established platforms, news of the first potential loan default also made the rounds in mainstream media. It is a guaranteed in the lending business that there will eventually be defaults in loans. Even mainstream banks set aside accounting provision for non-performing loans. However, as P2P lending is a relatively new concept here, the potential default did raise some eyebrows locally.
MAS will probably have the Lehman Brothers mini-bonds crisis of 2007/8 in the back of their mind while pondering specifics to regulate the industry.
One of the biggest crowdfunding fraud took place in China. Ezubao, a platform that was found subsequently to be operating a Ponzi scheme collected over $7.6 billion from investors. Authorities found out after investigations that almost all investment products listed in the platform were not genuine.
Local regulator MAS has also moved to regulate the industry. In June 2016, MAS announced measures to improve access to P2P for investors as well as borrowers. Crowdfunding platforms are required to have an CMS (Capital Markets Services) license to operate.
The move by MAS is not inferred as a restrictive one for the industry but instead serves to better protect retail investors and to lay out a comprehensive regulatory environment for all stakeholders involved.
In fact, the MAS has been open to fintech in Singapore and seeks to be an enabler without excessive stifling of innovative cutting edge ideas and technologies. The regulatory sandbox guidelines issued by MAS is an example of accommodating policy where fintech startups have the space to experiment and grow at their own pace.
2015 was also a challenging year for the local economy with GDP growth estimated to be 1.8% for the full year, the lowest since the last major economic crisis post 2008. SMEs whom are the main target borrowers for P2P lending struggled to obtain financing and to keep afloat.
As the various crowdfunding platforms classify loan defaults differently, we don’t have a conclusive statistic on the defaults percentage across all platforms. It is safe to conclude however that figures are not optimistic for 2015.
A prevailing problem is the very nature of P2P lending itself. As the platforms have to offer returns that is high enough to incentive borrowers to lend as well as to compensate them for the high risk involved, most borrowers whom will accept relatively high interest rates are usually ‘un-bankable’.
These SMEs might face difficulty qualifying for loans from mainstream banks and thus turn to crowdfunding to access financing. If the sector lies unregulated and credit underwriting of platforms are not robust, loans default will go up and investors might lose their entire capital amounts.
We observe the recent trend of platforms moving to securitize loans in the form of invoice financing and factoring. As most SMEs would not be able to provide hard assets such as property or equipment as collateral, extending loans that are backed by receivables with quality debtors is a positive move in view of the slowing economic landscape.
Overall, we are not optimistic that P2P lending will take off in a big way in Singapore. The expectations of investors on risk to return yield is tough to match against borrowing costs quality borrowers are currently paying to banks in interest. The market in Singapore is also too small to accommodate the current number of platforms.
For the rate of return to be driven down to attract otherwise bankable and quality borrowers, platforms must be able to scale fast and attract large numbers of borrowers and listings to diversify investment risk.
This is an uphill task as only major banks with structural advantages over startups can originate loans with large lending volume to diversify lending risk. Banks also have access to data that might not be privy to the platforms and credit bureaus such as credit and demographic profiling.
Crowdfunding platforms monetize via loans origination. Critics of P2P lending will point out that the platforms can only generate revenue by listing as many borrowers online as possible and does not have to bear any default risk. Interests of the platform might not be totally aligned with that of its investors.
Another trend that we observe is the emergence of second and third wave of new crowdfunding entrants. Most of these new players does not bring much groundbreaking innovation and by and large, business models are the same as the initial platforms.
Their presence might encourage refinancing of problem loans where borrowers on pioneer platforms whom are on the verge of default roll over their debt to the new platforms.
The new platform entrants might not be aware of repayment issues of such borrowers and in a bid to gain traction, on-board these borrowers. This will result in a game of musical chairs where the last platform holding on to the ticking time bomb will implode.
There are even some platform that promotes their problem borrowers to their competitors in a bid to avoid default being triggered on their platform.
A prevailing practice is the non-disclosure of borrower’s company name in listings. Reason citied was by reflecting the names of borrower on their platforms as was done initially, competitors will call up these borrowers in a bid to swing them over to competing platforms. This results in diminished transparency for investors as due diligence can’t be carried out prior to actual investment.
We feel that P2P lending will not displace the role of the banks anytime soon due to the massive structural and branding advantage banks have.
As an alternative investment class, investors might still be able to generate above market returns but proper due diligence and risk diversification is key.