- Fastest growing type of Crowdfunding
- Dominated by personal loans
- Business lending share is increasing
- Especially popular in the real estate sector
- Trading across borders is possible, but difficult to regulate
Loan based Crowdfunding is an online financial matchmaking process, connecting borrowers with lenders without the involvement of conventional banking systems. Often described as Peer-to-Peer lending, it can be sub-divided into lending to businesses or consumers. Typically the interest rates achieved are better than those available on the High Street, with investors able to choose the degree of risk they are prepared to accept. Many sites offer a rating system similar to a credit rating score.
Peer-to-Peer, loan based Crowdfunding is the fastest growing part of the portfolio of Crowdfunding products available and represents 75 to 90% of the value of all Crowdfunding activity. This ratio applies across the globe, with year-on-year growth rates of 60-100% from 2014 to 2015.
Peer-to-Peer business lending is dominated by the real estate sector of the business economy with 40% of all deals by value being provided to small and mid-size property development companies. Business lending by this route is now approaching 15% of the total market for SME lending as businesses find Crowdfunding quick, convenient and cheaper than conventional financing options.
The market is rapidly evolving, with new platforms and offers being designed and developed almost daily, and regulation authorities struggling to keep up with what in the majority of instances is an unsecured loan market. The risk of default, with no Government protection has encouraged the platforms to publish their default rates, create funds to compensate investors in the event of default and develop credit rating methodologies that match risk with reward.
The traditional sources of loan funding for both the business community and individuals is being disrupted by the exponential growth of Crowdfunding; with the result that Venture Capital Trusts (VCTs), banks, Business Angel Groups and even Governments are now supplying funds to Crowdfunding to ensure that they remain significant players in the loan market. UK regulation also opens up the loan market by allowing loans to be packaged in tax efficient savings and pensions schemes which will further advance the market for this sector of Crowdfunding.
The Internet makes trading across geographical borders easy, but, difficult to control and regulate. The picture across Europe is mixed, with individual countries drafting regulation as well as the EU attempting to put legislation in place, but policy makers and legislators struggle to keep up with the pace of evolution in the marketplace. Lenders are also attempting to develop solutions to cross border trading and deal with the complexities of cross border transactions within an unsecured, under-regulated loan market.
The actual mechanism afforded to the investor is relatively simple. Individual sites have different investment strategies – some offer fixed rate, fixed term investment opportunities; some offer a selection process whereby you choose the risk level you are prepared to accept which determines the potential reward; and some offer a bidding process whereby you state your required return and cash available and the recipient selects the best offers available. Most factor in a bad debt element, either incorporated into the rate offered or a surcharge on top to establish and maintain a bad debt fund.
For the borrower (the business), the process involves an online application process that can be completed in a relatively short period (less than 20 minutes) that will generate a response within 48 hours detailing any additional information required or confirmation that the application has been refused/accepted. After a positive decision is reached, the application is hosted on the website for a period (typically a week or longer) to attract investors. This real time application shows investors the current position regarding the proportion of loan already secured and the rate being achieved. Some sites automatically allocate investors (spreading their risk) whereas others allow choice by the investor.