Peer to Peer Financing

Blog
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Read a fair amount recently, that individuals are increasingly moving away from the financial institutions when it comes to borrowing for their personal projects.


Be it for a wedding, a new car, vet bills or business start-up. Individuals are turning more towards their peers. It is what it says, peer to peer lending (P2PL - since the jargonists have hi-jacked it). It first started to raise its head in the UK just under ten years ago with ‘not for profit’ lending between peers and since all good things must come to an end we have recently seen ‘for profit’ lenders coming onto the market.


It works by removing the intermediate players, in other words the banks, from the equation. Whereas in the traditional system you have an idea for a project, you go to your bank and they will decide whether to invest money that is held in the bank on behalf of others (your peers), in your project. P2PL turns that system on its head, cuts out the bank and puts the borrower and the lender together. The lender is then the sole person responsible for making the decision to invest their own cash.


In the traditional system, the bank assesses the risk and invests based on the outcome of the risk assessment. The risk assessment is the mechanism for protecting the money that you and I store away in the bank and in theory the bank should absorb any of its sour investments, thus leaving your money intact.


The minimisation of risk in P2PL is based around the interpersonal side of communities, with lending occurring in circles of people who know each other. The theory being that people will feel more obliged to pay back to people that they actually know. Failing that, there is a second tier of pressure which can be applied by the other members of that community. Lending is provided by mutual support and insurance provided by mutual pressure.


Is this the way forward, now that confidence is beginning to shake in the financial institutions?

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According to their website they lent £190m which is small compared to banks but i wonder how it will go when and if gets too big.Will it sell sell or go public with shareholders who will then want returns

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So it is becoming more and more structured

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Taken from website of the market leader ZOPA in UK

We credit check each borrower who applies for a Zopa loan. About half of
them won’t have a high enough credit score to borrow from Zopa at all. Those
that do are assigned to a market called A*, A, B, C or Y that reflects their
credit-worthiness.
• You can choose which markets you want to lend to, how long for and set
your own interest rates and then Zopa lends your money to borrowers who fit
your criteria.
• Your money is lent out to a large number of borrowers in chunks of £10 to
spread any risk. We assemble each loan using the cheapest of these £10s
made available by lenders to each market, giving borrowers the best rate
possible.
• Zopa’s risk assessment team ensure that every borrower who gets a loan
can comfortably afford their repayments and has no history of mismanaging
their finances.
• Zopa collects a monthly repayment from each borrower and distributes it
amongst all the lenders who participated in the loan. So you get some of your
capital and some interest repaid every month.
• If a borrower does fall behind with their repayments for any reason (and
that happens in very few cases), we employ a Collections agency just as a
bank does to chase that borrower for repay

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I just wonder how, if at all, secure it is for the person who puts their money in. But I suppose that that all comes down to them assessing the risk in the first place

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Did not see the BBC program but sounds like the articles in The Times lately about borrowing money outside the traditional banking system. People put money into a pot and other people borrow on it. The deposit rates can be 7-8% and as far as i remember loss to non payers was 1-2%.There has been a call to regulate ,no doubt from the banks who see their revenue sources drying up. Not to sure how these groups work out your credit worthiness but seems to be accelerating.

On another note i understand that in the Asian communities they pool money,help and other resources to buy,build and extend houses amongst themselves. They put into a project and help out others and then when they need something others will help them.

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Anything thay cuts out the banks has got to be a good thing! I had an interesting conversation with my bank manager years ago when he seemed to think that whatever money I had in the bank belonged to them.

I saw a piece on the BBC a couple of weeks ago about people lending their money via a website. The lenders seemed to be of an older generation whose money on deposit with the banks was earning b+++++r all whilst they lent it out at 6% or more. The borrowers were of the younger generation.

P2P funding has been going on in other countries for a long time-after all a lot of the Greek problems are that nearly 50% of the money in circulation never goes near a bank or the government. A similar situation exists in Italy with a third of the economy being the 'black' economy (or people use the mafia banking system). Here we are often asked to pay half of an invoice in cash and the rest by cheque.

I once read that in the UK a third of the adult population didn't have a bank account and with the advent of PayPal and other online systems and direct payment cards this may increase. Maybe our banks will treat us, their customers a little better in the future?

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Nick, I do not know enough about regulations of peer to peer funding pools to be of much help. My focus has been on crowdfunding and I've only come across the P2P model in my research on what's out there.

The P2P model is definitely about people helping people directly and staying outside the traditional banking system, so I SUSPECT that there is little in the way of rules and regulations other than self-governance.

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Kim,

Thanks for that indepth insight. So if we look at the Peer to Peer. Are there any formal regulatory rules in place as to how these funds operate?

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I think there are two different models under discussion here.

The peer to peer lending is an actual lending pool. The group can limit itself by region, by amounts it will lend, by type of project, etc. The idea is that you will borrow assets (money) for a project or an event, and will repay the pool the same type of asset with a small interest charge to keep the pool funded.

Kickstarter, indie-gogo and other web sites provide "crowdfunding platforms" to raise money for projects. For the most part, these are creative projects, tech initiatives, or some small brick and mortar companies looking for financing for a remodel or expansion. The door to allowing crowdfunding for equity investment opened in Europe in the past 10 years and is just now opening in the States.

In a crowdfund, the platform does get a percentage of the money raised. The project must raise all of it's targeted funds within a specific time frame in order to get the funds released, and people make a pledge in exchange for something: a tax credit for a non-profit, named as a producer for a movie, or perhaps a 24 hour window to beta test a new game when the designer delivers. There is no "return" of the money because it is not lending. It is giving.

When this model is applied to equity crowdfunding of start-up companies, the return might be stocks or a percentage ownership, but the amount any one individual can invest is capped. In the US the cap will be $10,000 or 10% of annual gross income. This protects the investor somewhat.

The key to crowdfunding is that the "crowd" wants to see your project completed or your product come to market. The pledges are not collected until the full amount needed is pledged, so there have been situations where someone doing a little internet research has uncovered a fraud or a misrepresentation in the project description. If it a flagrant abuse of the site's rules, the crowdfund site has the option to remove your project from consideration. For example, if I make a pledge of $50 to fund a documentary on the slaughter of penguins, but then find out that the person posting the project is a liar and there are no penguins being slaughtered, I can withdraw my pledge before the full amount has been raised. Once it is raised, my money is gone.

Crowdfunding has many good elements to it, but as usual, no man/woman has ever made a law/rule that some other man/woman couldn't find a way around. The success of a crowdfunded project or company is established if they get the funding they need because that is their customer base. If you don't get your funding, perhaps you have a bad idea, or just bad copywriting. It's a way to test markets without huge investments of time or money.

Hope that helps the discussion.

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I see, and do the people who have pledged money actually get anything out of it themselves?

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@ Damian, what is "Kickstarter" about?

@ Andrew, well essentially yes, but with the idea of exposure to more sources in a community - if I understand correctly.

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Have heard of it, haven't come across it first hand, isn't it just reinventing the wheel - borrowing money off mates and family...?