Wednesday, April 10, 2013

ABS meets EBay - the disintermediation of consumer finance

Can unsecured consumer lending be disintermediated? At least one fairly successful company thinks it can - as long as you get large groups of people willing to borrow and investors willing to lend. The company is called Lending Club. The firm allows for pooling of personal loans, with borrowers rated from from A to G based on the credit profile. In this low rate environment returns generated by this lending look attractive and are available to investors who don't own a credit card provider.

Source: Lending Club

Lending Club charges both the investors and the borrowers some fees - with the riskier borrowers paying higher charges. Investors can come into this program through their IRA account to get tax free interest income.

Sounds risky? It all depends on how diversified the portfolio is. About $20k buys some 800 "notes". An investor can build a portfolio by selecting pieces of loans from rated borrowers as they come online. The system also tells investors a very indicative "use of proceeds" as well as what portion of each desired loan has been raised so far. Each investor effectively becomes "the bank", electing how much to lend to whom (although for regulatory purposes it seems that loans are funneled through "WebBank, a Utah-chartered Industrial Bank").

Source: Lending Club

What's good about this program is that unlike credit cards who generally charge a high rate to all borrowers, the credit scoring provides cheaper capital to the strongest borrowers. These are credit markets at work - applied at the retail level.

According to the company almost $1.5bn has been funded this way. It's a drop in the bucket compared to trillions in consumer finance, but is certainly a good proof of concept.

Is this a sign of where consumer lending is headed? Should the credit card industry be concerned that technology-based free market will one day disintermediate them?
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