Securitising the crowd

IFR Review of the Year 2015
9 min read

Securitisation has come a long way since the dark days of the financial crisis, when politicians – and many regulators – laid the blame for much of the chaos squarely at its feet. With both groups now broadly understanding the role it can play in stimulating lending, securitisation is on the march again, with a new and novel type of loan being considered for use in the asset pool.

Interest in peer-to-peer lending has seen rapid growth in recent years. According to Moody’s, UK businesses have obtained about £1.4bn through peer-to-business lending so far.

The US has already seen the first securitised P2P loan deals, the first of which was completed by Eaglewood Capital. Many expect the UK to be close behind, with its first deal likely to come by the end of 2016, if not before. A number of UK-based platforms say they are considering such a deal in the future.

Securitisation has had more than its fair share of bad publicity in recent years, which may be putting off some potential players in this market – both the institutional investors considering buying a new, relatively exotic securitised offering, and the lenders that are the lifeblood of the P2P market.

But if such reservations can be overcome, securitisation could increase capacity in the market and strengthen platforms by diversifying their sources of funding. By providing the necessary data to arrange such deals, platforms will also increase transparency.

From the investor perspective, the returns on offer in P2P lending certainly look attractive enough to arouse institutional interest. One such platform, Zopa, has achieved positive returns in every year since its inception more than 10 years ago – even returning 4% to its investors in 2008, despite a spike in defaults. Its loan book is publicly accessible, allowing institutions to do thorough due diligence.

Impediment to evolution

But plenty of work remains to be done before the product can be made available to them. So far the evidence from the few unrated transactions is that the pricing securitised P2P deals can achieve is less competitive than would likely be available via bank loans – a significant impediment to the market’s evolution.

Advocates of the securitisation model argue that prices will quickly fall to more competitive levels once more deals have been done.

And although there is clearly sufficient scale in the market, in terms of origination of P2P loans, many P2P lenders, including LendInvest and The Bridge Crowd, focus on shorter-term loans that would be less suitable for securitisation.

Both lenders are looking at the possibility of extending their product range into longer-term loans, which could make securitisation more interesting in the future. Loans for buy-to-let investors may be particularly ripe for this kind of deal.

TBC puts its own capital into every loan it makes alongside the P2P element, with the proportion financed by each side determined by the level of interest of the P2P users. This is indicative of the prevalent model in Europe, where most crowd-funding platforms have some skin in the game, in contrast with the US, where more platforms act as pure middlemen between lenders and borrowers.

It is the portion of the loan that is offered by the institutions themselves that looks most promising for securitisation. Zopa, too, is considering working with institutional lenders that could securitise loans on its books, noting that the unsecured personal loans in which it specialises have outperformed residential mortgages, among other types of lending.

Acting as middleman

Whether there will ever be appetite to securitise the P2P portions of the loans themselves is less clear. Some loan contracts are between lenders and borrowers directly, with the platform merely acting as a middleman, presenting certain challenges around recourse: if loan repayments are not being made, the platform can assist in chasing up repayments, but the ultimate responsibility falls on the lender. If the loans were to be securitised, someone would need to take on this responsibility.

Louis Alexander, managing director at TBC, said: “With our current short-term loans, it is hard to see what the purpose of securitising the P2P portion of the loans would be. It would certainly be more useful on our own portion as institutional funds are finite. The P2P portion is unquantified, but in essence unlimited. So it is hard to see the need for securitisation of P2P loans.”

Limiting the packaging of loans to those underwritten by the institutions that originated them should give investors comfort that lending standards will be maintained. In this sense, the securitisation of P2P loans might have more potential in Europe.

However, the crowd-funding business itself is growing in less fertile soil in Europe, a market that is already well served by banks. In the US, by contrast, crowd-funding platforms have seen rapid growth because of the lack of competition in consumer lending – the only real alternative to these sites in the US is credit cards, said Stefan Augustin, senior credit officer at Moody’s.

Getting onside with agencies

Another key hurdle the market must overcome is the reticence of some rating agencies. Fitch said a lack of historical performance data on UK marketplace lenders’ SME and consumer loans would make it hard to assign a high investment-grade rating to a securitisation of such loans.

It said SME loans could potentially earn lower ratings than consumer deals given the difficulty marketplace lenders may have in identifying riskier SME borrowers. Borrowers turning to the P2P market may have been rejected by traditional lenders, meaning they are more risky, on average, it warned.

S&P is also cautious in its assessment, arguing that “a measured and cautious approach is warranted to properly evaluate this segment, which exhibits unique and heightened risks”.

In particular, it warned that such deals might suffer due to “segmentation of the origination, funding, and servicing functions across potentially numerous parties, the lack of consistent operational track records of these parties over an extended timeframe, the weaker alignment of interests between the marketplace platform providers and the loan purchasers/ABS investors, and the uncertainty regarding the regulatory framework”.

Christian Faes, CEO at LendInvest, a crowd-funding platform, said: “The rating agencies appear to be wary of P2P lending. I heard of one analyst at one of the big rating agencies saying no P2P lending platform should ever be given a rating higher than Triple B, which is nonsense. If that is the attitude of the rating agencies, maybe securitised P2P deals aren’t as close as we think. This industry needs to build up its relationship with the rating agencies.”

“If that is the attitude of the rating agencies, maybe securitised P2P deals aren’t as close as we think. This industry needs to build up its relationship with the rating agencies”

A more favourable view

Lenders may want to start this process with Moody’s, which takes the most favourable view on the potential of securitisation of P2P loans among the big three rating agencies. “We have no cap for ratings of marketplace lending securitisations,” said Igor Zelezetskii, a senior analyst at Moody’s.

“The maximum achievable rating will largely depend on the details of each securitisation transaction. For example, most of the assets in the P2P portfolio that we examined consisted of loans granted to prime and near-prime borrowers.”

Zelezetskii said the way platforms originate their loans was similar in many ways to the way the banks do it, meaning there should be no significant difference in their credit risk assessments.

“These platforms are staffed by former bankers, they are not reinventing the wheel. To look at this market as though it was similar to subprime without actually looking at the borrowers, the products and the origination criteria does not seem reasonable to us,” he said.

“To look at this market as though it was similar to subprime without actually looking at the borrowers, the products and the origination criteria does not seem reasonable”

Augustin conceded that the lack of historical data could be a challenge for early deals, but believes loans originated on crowd-funding platforms should behave similarly to other forms of loans to similar borrowers.

“There may be plenty of data relating to the same kinds of borrowers from which we could extrapolate. It does create more uncertainty, which would be factored into the rating, but it certainly wouldn’t justify a cap per se.”

Such concerns will not, rating agencies and platforms agree, stand in the way of the first deals from happening. The only questions that remain are how long it will take to get the deals off the ground, and how much interest they will generate.

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Securitising the crowd