Is the marketplace lending industry in trouble? Here’s what we know.

what's going on with marketplace lending

There’s been a lot of chatter recently about the state of the marketplace lending industry. Unfortunately, it’s been a little noisy, as both positive and negative data points have been released.

Here’s what we now know:

On the negative side

Demand dropping for marketplace loans, marketing efforts curtailed: Growth is slowing and that’s because the appetite for marketplace loans is dropping. Some platforms have seen loan volume drop over 20% from Q3 to Q4 of 2015. The first quarter of 2016 doesn’t look to be any better. The marketplace lenders are responding by dialing back their marketing efforts. If the Fall of 2015 was a bull market for the advertising of marketplace lending products, the market now appears to be pulling back. Lending platforms are throttling the volume of direct marketing postal pieces they’re sending to potential borrowers.

According to the WSJ, Avant, for example, cut the number of loan offers it mailed to customers by nearly two-thirds, from 4.6 million to 1.7 million, between December and February. This will have a big impact on revenue growth — if direct mailing was the gas in the origination tank, the industry will have make do with less going forward.

Today or tomorrow, regulation is coming: In March of this year, the Consumer Financial Protection Bureau (CFPB) began accepting consumer complaints against marketplace lenders. Right now, though loan standards at marketplace lenders are proscribed like any other entity that offers loans, there isn’t any single regulatory body or set of regulation that governs the marketplace lending industry. Most experts expect that to change and there’s a growing feeling that it will be sooner, rather than later. The newly announced Marketplace Lending Association appears to be an attempt by industry participants to create momentum behind self-policing, at least in the interim, to stave off initial regulatory attempts. More regulation could lead to more compliance costs and tighter lender criteria, squeezing revenues and profits for the platforms.

Lower end of credit spectrum deteriorating: It feels like the consumer economy is beginning to roll over. This will test marketplace lenders’ credit models in a way this young industry, which came of age after the 2007-2008 credit crisis, hasn’t yet been tested. Cracks are beginning to form: alarmingly, the lower end of the credit spectrum for marketplace borrowers is deteriorating. Higher quality loans look to be relatively stable but charge-offs on the lower quality spectrum are significantly above historical norms.

ranking the largest marketplace lenders
from the NYT

On the positive side

More institutional investors are entering the space: A recent survey conducted by Richards Kibbe & Orbe and Wharton FinTech polled 300 institutional investors in the U.S. The results of the 2016 Survey of U.S. Marketplace Lending showed that half of all investors have some exposure to the marketplace lending industry. That’s up from 2015 numbers which showed less than 30% of investors were active in the space. More institutional liquidity means more loans get funded.

Debt market slowly forming: There’s another sign that the marketplace lending industry is maturing — securitization of loan portfolios. As loan markets mature, new investors step in after the originators to invest in portfolios of loans. That’s beginning to happen. In the last three months of 2015 alone, there were 9 such deals for a total of $2.7 billion in the U.S. market, more than five times the dollar-value of the same time period in 2014, according to PeerIQ.

Platforms trying to encourage more balance between retail and institutional investors: There are signs that marketplace lenders want to reduce their dependency on institutional capital. Mom and pop investors account for around 20% of the investment capital on LendingClub’s platform. And according to the FT, the retail channel has grown at a respectable 61% over the past three years, while institutional lenders (including managed funds and family offices) have gone up at more than twice that rate. There’s reason to believe that this capital is encouraging marketplace lenders to aggressively expand by relaxing lending standards. Balancing the investor mix would make these firms more resilient in a poor market environment.

Marketplace lending association forming: In response to concern about the introduction of more sweeping regulation of the marketplace lending industry, some of the largest online lenders announced they were forming a marketplace lending industry trade group. The three founding members of the Marketplace Lending Association were LendingClub, Prosper, and Funding Circle. If the industry is going to continue growing at a fast clip, the thinking goes, there will need to be a unified body to help counterbalance plans to regulate by speaking of one voice.

Lending Club’s founder and CEO, Renaud Laplance spoke at an industry-wide conference this week in part, to allay participants’ growing fears that something is afoot. He addressed concerns about regulation by explaining that there is actually a significant amount of legacy policy that covers the marketplace lending industry.

Further, in his estimation, there’s no need to worry — the industry is doing just fine. It’s just a matter of perspective.

“If you look at online travel, the music industry, you look at the video industry, and you look at the adoption phase over the first decade, you see that roughly 44% of customers adopt new products and switch from the incumbent within first decade,” Laplanche spoke at the Lendit 2016 conference. “If we follow this metric through with the first product that was launched in this industry – the first segment was launched about 8 years ago, the personal loan– about 24% were originated through [marketplace] platforms. So we’re right where we should be in terms of adoption curve.”

Professional marketplace lending association aims for clarity, transparency

best presentations for marketplace lending

Fintech professionals and observers say the founding of a professional organization to promote responsible business practices among marketplace lenders is a landmark for the industry, which grew from infancy in 2006 to $12 billion in 2014, and is expected to reach $122 billion in origination volume by 2020.

Nick Clements, founder of price comparison website and a regular commentator for Forbes, told Tradestreaming that the formation of the Marketplace Lending Association (MLA) on April 6 will give the sector an important voice, as federal and state regulators start to look more closely at the sector.

“There is not a lack of regulation in the U.S.,” Clements explained. “In fact, there is a lot of regulation from varying agencies and states. But what is missing is a clear regulatory framework,” he said.

In an email exchange on April 12 from the Lendit 2016 conference, Clements said most CEOs at the gathering spoke about welcoming regulation, and added that there is an overall feeling in the marketplace lending sector that the industry is inherently consumer-friendly. Most felt their businesses would benefit (with investors, for example) by having regulatory clarity.

“There is ambiguity in a number of places, and that needs to be addressed,” he said. “For example, Madden vs Midland Funding raises questions about the maximum rate that can be charged (and portability of rate) for a typical marketplace structure. Or take the issue of a national lending license for non-depository institutions. This went away with Dodd-Frank and would help marketplace lenders avoid having to get licensed and audited by 50 different state regulators.”

The MLA was founded by credit marketplaces Funding Circle, Lending Club (NYSE: LC) and Prosper. Officials for the Association said the group will also lobby for sound public policy to benefit borrowers and investors. The group’s Marketplace Lending Operating Standards outlines fair lending practices, provides guidelines for appropriate risk management models and especially calls for transparency for all parties involved in marketplace lending, including investors, borrowers and regulators.

The Association is governed by a Board of Directors, which will initially consist of one Director nominated by each founding member. As more marketplace lending companies join the MLA, additional directors will be elected based on a vote of the full membership. The MLA intends to hire an executive director and staff as it continues to expand.

“The launch of this Association reflects our industry’s commitment to the highest standards of transparency and customer protection, while also delivering innovative new ways to provide better value and experiences for consumers, small businesses and investors,” said Funding Circle Co-Founder and U.S. Managing Director Sam Hodges in a prepared statement. “In the fast-growing marketplace lending sector, we want to continue to act as a thought leader and thought partner to the appropriate bodies in Washington to ensure continued innovation and responsible growth in the sector.”

The group says it aims to bolster the growth of the marketplace lending industry, as well as to ensure transparency and efficiency throughout the sector. To accomplish that goal, the group has published a professional code of ethics, the Marketplace Lending Operating Standards, to address issues including transparency, responsible lending practices, governance and controls, and risk management.