#13: New RBI guidlines Auto-Investing, and Capital Recovery

It has been a quite a long time since I had written a blog. My apologies to readers. Due to personal reasons I was totally out of touch on blogging.

Last few months have been completely a downhill ride for me (and some of her lenders I know). I personally feel, I am let down by what has happened recently with us. I will touch base on that later in the blog. Let’s start with the big news. RBI’s lending guidelines are finally out and there is a lot to process.

Decoding the RBI guidelines

Firstly, P2P platforms will be classified as special type of NBFCs: NBFC-P2P, and they need to fit into all the stated regulation by RBI within 90days of release of the notification. i.e. by 4th January 2018.

Secondly, the 2Cr equity investment is must. A lot of firms have managed to raise that much capital. Some through personal money, some through Angel Investors, some through Venture Capitalists.

Thirdly, platforms are obligated to notify all loans to credit bureaus, which a good news. This acts as a deterrent for borrowers to default. Even though platforms cannot offer principal protection guarantee, they can offer insurance for a premium. Thus creating some sort of safety net for lenders. This is potentially a good way for platform to differentiate themselves against their competitors. Who and How the insurance products will be designed is up to them. But I do believe there is a big opportunity here platforms to provide insurance and suggest lenders to buy insurance for all their loans.*

(*I have now no commercial gains for providing this suggestion)

Fourthly, a set back for major lenders. A personal lender cannot lender more than INR 10Lac (1 Million). Which I believe is a very low amount. And now lender cannot give more than 50,000 a borrower, which seems fair. I think platforms are requesting RBI to raise the INR 1Million cap or not have the cap at all.

Fifthly, on the default management side, RBI has said: “platforms shall render services for recovery of loans originated on the platform.” Also they have elsewhere in the regulations mentioned: “The outsourcing of any activity by NBFC-P2P does not diminish its obligations and it shall be responsible for the actions of its service providers including recovery agents”. This is  fairly straightforward interpretation:

1.  Platforms must render recovery services

2. Platform can outsource recovery services

3. Platform is held responsible for actions of the service provider i.e. Recovery Agency

Thus it is the prerogative of the platform to provide recovery. A lot of platform owners will try to dilute the interpretation, you stick to it. You can also challenges the same at RBI’s consumer redressal appeal which can be filed online. Recovery is not always successful but not making a serious attempt by the platform to recovery must be dealt seriously. Platforms can use mischievous stalling techniques and you get nothing in return. Sending chaser emails and calling in not even soft recovery; sending legal notice, police and recovery agent visit, filing legal case or arbitration case this is what real recovery looks. Recovery is not 100% possible in all cases, as the borrower might be in serious trouble but restructuring of loan especially for salaried borrower is always possible.

Fifthly, portfolio assessment must be provided by the platform each month including listing out of NPAs, fees charged, interest income earned, outstanding loan amount, EMI received. You have the right to ask the platform a detailed assessment of your entire portfolio, as the guidelines. The platforms can’t refuse. Some of them email you each month some of them post it on their website. NPAs needs to be segregated by age: non repayments above 90days is classified as default and needs to go to full recovery.

The regulations have clarified lot of issues of portfolio management and NPA resolution. The regulations are evolutionary in nature and RBI will keep on clarifying portions are that are open to extreme interpretation. The key areas is the handling of defaults that need more direction of RBI. If the firm fails to send a loan to recovery what options do the lenders have: can lenders direct platform to initiate recovery, can they file a complaint with RBI, what can lenders do in case the initiated recovery is good enough and that the recovery agency is lax. These questions needs to be answered.

Overall, the regulations are balanced and enough space has been given for platforms and lenders to manoeuvre. But hopefully the platforms do not take lenders for a ride with their mis-representation and hysterical interpretation of regulations.

Automated Investment

Few platforms have started to provide auto investment feature. This is especially for those who understand the nuances of personal lending and have large portfolio (say >5L), although lenders with lesser amount can also make use of it.

The Basics

The idea of auto investment is pretty simple. Most of the platforms have their algorithm that is used to analyse a borrower and give it a rating and interest rate. Rating generally range from 1(least risky borrower) – 7 or 8 (most risky borrower) and the interest rate charge is proportional to the rating – higher the rating higher the interest rate.

Based on lenders appetite, he or she can choose in types of borrowers based on rating to invest and give each rating a weightage. The total weightage should add up to 100%. For example, if I choose to invest in borrowers ratings 1,2,3 only, I can assign weights 30% to 1, 30% to 2 and 40% to 3. Thus my overall portfolio would be have 1,2,3 borrower types with their stated weights. The platform also show the net ROI upon borrower selection.

Advance Automated Investments

Some of us want to have more control over the kind of borrowers we want to lend to. This may involve lending to borrowers having a certain minimum salary, for example. Or, not to lend to someone who lives in rented home.

These are very specific or advanced filters. A borrower may have a CIBIL of 700+, rating of 1 on a platform, but because lives in they are bachelor who move town often, they would be rejected. For platforms it does not make sense to create such kind of filters. This is way they would reject too many.

One a major advantage of Automated Investment is that you don’t have to worry about reinvesting your EMI into new loans, the platforms does it for you. That results in faster funding for the borrower too. However, while investing one should always put hard thought to diversification. I wouldn’t suggest to just put in the money in auto investment select parameters and then let the platform take over. I rather suggest to start with the least riskiest borrowers and steadily move towards riskier borrowers over a period of time. And let the portfolio lean towards least risky and low yield borrowers and then move towards high risky borrowers for better yield. This can be done by adjusting the weights to ratings overtime.

Capital Recovery

I have spoken about exiting from the p2p asset class here, in this blog. If you are don’t think p2p is for you or have faced large defaults, you might want to quit it lending.

Loans given can be up to 36 months. So if you last loan given had a tenure of 36months. It’s going to take 3 years for you to get your entire principle back, provided the borrower does not default, or recloses the loan.

In case you have defaults of more than 10%, I suggest either two:

1.  Quit p2p lending

2. Or figure out what was wrong with your earlier strategy and give it a go again.

If you wish to quite lending, it’s fairly easy. You stop lending. The hard part is that you get back you principle amount. For that you might have to wait up to 36 months, at least. Over the time it is going to be very painful for you to wait and watch for your investment to come back. It is very easy to disburse, but very hard to get back the investment. You will have be very patient but very aggressive at the same time. What is important is that you remain on top of the default loans; that you are constantly asking the platforms to show progress in the recovery of loans. If the platforms are refusing to share recovery details or are not pursuing recovery despite several attempts by you, you should file a case with RBI, send the platform legal notice and do not engage in their game of keeping you wait forever till nothing happens and your finally just give up.

To reconfigure your strategy, I suggest so with the highest rated (rating 1,2, and 3) borrowers only for a year. A diversified portfolio loan rating 1,2,3 should not give your default rate of more than 5%. Ask the platform so provide, in writing the default rates for these loans and diversify your loans with minimum investment in each loan so that your portfolio mimics the platforms portfolio for these loans. In my experience most loan defaults happen during the mid term of the loan, because the loan now has become a drag on the borrower. If your least risky borrowers are defaulting, then there is something wrong with the underwriting of the platform and you should stop investing.

If you are driving below speed limit, wearing a seat belt, and have air bags in your car and yet you get injured, it’s time to get out of the car and change it. As Buffet said, you lost money somewhere, that thing won’t help you get back your money in the long run.

 

 

#12: Benchmarking P2P – Alternative Vs Mainstream returns

There has been a lot of hue and cry about several alternative asset classes that have been claimed to give higher returns than mainstream investment. P2P lending if not the largest is one of the largest asset class across the globe.

Alternative investments is anything that is not: cash, bond or stock. Fixed deposits and similar products are classified as cash products. So if you go beyond the cash, bond and stock, what you have are alternative investments. Futures and options, commodities, arts and collectables, real estate, and more importantly p2p lending are alternative investments. Alternative assets carry very unique risk as the nature of each asset is unique and niche. For example, real and commercial estate is not highly liquid and carry lot of legal complication in buy-sell activity. Commodities like Gold are negatively linked to the S&P. A conflict in Middle East can cause oil shortage and cause the prices of oil go up.

So except for residential and commercial real estate and gold, the average person or the millennials do not invest heavily in alternative asset class. But then gold is more of an hedging instrument rather than an investment for the middle class. Also the alternative asset class is costlier. Middle class family head can’t say I’ll buy a 1000 litters of oil and sell it at a higher prices when there is shortage. Not gonna happen.

Another affordable alternative asset that has emerged is the p2p lending. A small ticket size of 10,000 one can start lending and build a portfolio over time and generate a returns upto 18%.*

In my previous blogs, I have tried to explain various risks associated with p2p lending and one has to be prepared for a drawdown. As many as genuine borrowers I have, I have been wilful defaulter. This is sad state of affairs and I would like to point out to my fellow readers that I have decided to reducing lending by 90% or stopped lending until I don’t see action against my defaulters from the platforms that I have invested through.

Coming back to the main point, the returns offered are attractive and so have a chance to benchmark it against other possible investments. One thing I like to mention about p2p lending is that unless you do turn around your EMI and into new loans each month, your returns would be lower than 18% but under no pressure one should invest if the borrower is not right. The lending returns attract taxes and we have to also adjust for risk by understanding the drawdown. So I have created the below table to benchmarking.

*My reasearch and experience have been used to assume numbers mentioned above – I do not take guarentee of these numbers

*Downside is assumed using the average maximum drawdown I have personally seen or calculated using historical data

*The returns do not assume any operational cost – because there is little or none

*It is my beliefe that over time the lending rates for p2p are bound to come down and that 21% would rate of the riskiest borrower

*Rental Income RoR is actually RoA for the rented asset (house or commercial shop). This the numbers are based on my observation in the real estate market

*18% is the rikiest borrower and 12% is least risky borrower

FD, real estate and rental income offer the safest returns, although off loading a real estate is very difficult. One might argue that real estate RoR is higher than 5%, but I don’t believe in the current scenarios that is the case. I have even see depreciation in real estate market at prime locations. Demonetisation, RERA Act and the general economic slowdown have slowed down real estate value growth.

Ranking wise MF offers the optimal returns for long term growth. P2P may offer better returns but one cannot pull out easily out of p2p to book the real returns. Plus we never know when might a person default and we’ll have to write off the loan. The draw down is 15% because me and my fellow lenders have experienced it and feel the pinch of the defaults.

All this makes it sound as if one should probably stay away from p2p lending! But the thing is some platforms have been so good in making sure the EMI repayments are on time and others don’t seem to bother at all. As of today, I’ll say: “choose the platform, before you choose the borrower”.

 

 

 

 

 

#11: The Default Nation – The State of Defaults.

When Narendra Modi led government came to power, I believed in his vision that there would be sweeping changes. There was so much clarity in his mission, and still is, that for once there is a relief that this nation is led by someone whose head and heart is in the right place. But handing out loan waiver in UP was an undoing in politics that could turn the goodwill earned by PM Modi. Because this goes to show that the farmer is no one’s voter (just like many of us). Because now, this loan waiver could spiral out into the biggest fiscal undoing of our nation; thanks to Mr Jaitley this may not be case.

While the campaigning was going on in UP, loan waiver to farmers were promised; but immediately Mr Jaitley said states will have to arrange for their own funds and centre won’t help. Wise step. The state is always reluctant to give waiver if it does not have central backing. To further reduce the burden pardon only loans of small farmers; eliminate the big farmers. After that, don’t pardon the loans given by private money lenders, only that of banks or co-op societies. The 2014 farmer loan waiver in Maharashtra caused such a pain to money lenders that some of them had to borrower in order to continue lending as a business. Some shut shops.

What we are seeing is an unprecedented thirst in the minds of farmer to seek loan waiver starting in Maharashtra and spreading across the nation like wildfire of moral hazard. This is where the politics and economics cross road like never seen. When politicians looses, power changes hands; when economics looses, we all become poor.

I generally write blogs here to comment of my p2p lending but today after reading about TOI’s article stating famers are default in hope of waiver is bad news and my personal experience about feeling of debt write offs, made me write this article. There is no collective responsibility. But why blame farmers? Supreme Court recently affirmed late PM Rajiv Gandhi’s remarks that on 14p of the allocated subsidy of 100p goes to the needy. The farmers have been so badly deprived of their basic needs that they now don’t care of fiscal stability of the state and union. May be if the 100p they deserved had reached them, they wouldn’t have made such demands at all.

The farmer loan waiver is not going to solve long term problems of farmers or the nation. They still need to borrow again next year for crops, fertilizers, pesticides, labour payments, unemployment wage gap, and the debt cycle will start again. A debt waiver will hurt the rural economy more badly than not given a debt waiver, for it creates a recurring moral hazard. The farmers after each election cycle will protest for debt waiver for the party that is not in power and the super rich farmers who will collude and prop up low income farmers to protest for waiver. This is very bad.

The reason for debt in itself has various causes: bad monsoon, high labour or input cost (I have been told that due to MGNREGA the farm labour cost has gone up), bumper crop harvest that push down the prices, personal issue and inefficient farmer wholesale markets. Crop insurance, Minimum Support Price, better irrigation facilities etc are the correct ways to reduce farmer problems. Giving waiver is diagnosing the symptom not the disease.

And what about the big corporates who defaulted? The collusion of the executives of the state run banks and corporate managers has paid negative dividends. The high NPAs of the state run banks is enough to wipe of farmer debts, had that the collusion did not happened on the first place, is my estimate. Even in the private lending space where the lending should have been more disciplined, the NPAs are high. There seems to be some kind of structural problem in our risk assessment and recovery.

A contrasting case is that of Vijay Mallya. We all know what he did and how he did it. And now ever since RBI created NPA assessment panel, it has come to light that more than 2L Crore of defaults is caused by just 12 corporate accounts. That puts a huge stress on banking sector.

In any normal economy, 5% NPA is a given. That is acceptable. But not 15%. All those funky credit algorithms to assess risk and technology enabled lending seems so unreal that one can poke fun at such lending.

I recently read that Capital Float, an Fintech lender NBFC that lends to small businesses has an NPA of less than 1%. What a joke? I refuse to believe it. I’ll tell you why? A standard classification of NPA is non repayment of more than 3 months. However, if some one does not pay for 3 months but has shown right intent to pay after 3 months down the line, the auditor or risk manager of a firm can take a subjective call to not list it as an NPA. What a work around! Creative accounting, I call it.

The part of the structural issue is also behavioural. The ability to sit on cash and declining loans and not falling under pressure to lend is a must. I must admit here that I have several times also fallen under pressure to lend and that has hurt by ability to generate profit.

At each level of lending, is a loop hole that can be exploited. There are loan agents that promise loan disbursal to sub prime borrowers if they can provide kick backs to the agent and the approving manager, is a simple example. A large corporation seeking project finance who have funded an Member of Parliament’s election can get access to a state run bank’s chief.

The SARFESI act recently passed empower recovery of secured debt through liquidation of assets but selling such large assets in itself is an issue. Mallay’s Goa Kingfisher Villa auction failed for the 5th straight time. Anil Ambani led RCOMM tower sale is a low hanging fruit that no one wants to pluck. But those massive loans that were taken for project finance, like setting up power plants, are even more harder to sell.

This is sorry state of affairs. Both the rich and poor default. And in p2p lending the middle income defaults. We as a nation have lack financial discipline. Everybody defaults. We are The Default Nation.

Disclaimer: The views are personal and based on recent media reports and not targeted at any particular person or institution.

 

#10: Monthly Report – April

I for some reason in the midst of writing other blog entries did not write the monthly report for April; hence I have combined the report for the month.

In the yearly and March end analysis [Click Here]  I had shed light on how lending performed for the previous year against my aspiration. The answer was the it was promising in subtlety and lukewarm in past-reality.

I keep on constantly reconfiguring ways to reduce risk and increase my repayment; one of the options on the table for me is to completely stop p2p if the loans start performing poorly. British Parliamentarian Lord Adrian Turner had commented that (para-phrased) that pure technology play in p2p without strong underwriting, including physical verification, will lead to defaults.

As the repayment goes up my confidence goes down. Was April such a case? Let’s find out.

I saw a 75% on time repayment and 14% delayed payment and 12% non payment; my average non payment per month is now more than 5%. That means if this pattern continues my profit will be zero for this year. But the scary part is that I have 8%,15% and 12% for the past three months that means an average of 12% for the past three months. Hence I have made losses now. This is very disappointing start to the new year.

Rising non repayments and poor recollection is the main reason. There were no extenuating circumstances that could explain the broad macro-lending environment. I am now waiting to see may report and it also doesn’t seem promising. Yet till date, I have seen a single prosecution or arbitration of any borrower.

The loans given have also stepped down this month mainly because I had some emergency and had to withdraw entire month of EMI for personal use which is sad.

 

 

 

 

#9: Lending to: Salaried Vs Self Employed Vs Business | Men Vs Women

What makes an ideal borrower, who is an ideal borrower is a question that all lenders ponder upon. An ideal borrower is one who simply pays all EMIs on time, without days. Hassle free.

Based on the borrowers I have, I have noticed that I tried to diversify across various categories to see if a type of borrower can minimize risks. For me I don’t lend to borrower whose interest rate is less than 18% (generally, of course there are exceptions). Why 18%? Well my MFs give me 12-13% tax free. So, I must give to someone who at least gives me 18% in pre-tax so that I get 12% post tax.

But to achieve this return we also need to see that we have quality borrowers and how to find and assess them to suit your idea “that he/she won’t default hence I can give him/her loan”. Credit rating of platforms has played little or no part in my lending decision. Cause some time it doesn’t make sense to how the rating is working. So I got about doing my own analysis.

Some platforms do claims that best rated borrowers have better repayment track record, but speaking to my fellow lenders, they don’t share the same experience. Neither do I. I would like to see platform wide statistics published by each platform on things like ratings vs default rate distribution, like Lending Club does. But after the Lending Club CEO’s outster because he had sold wrong kind of loans, I doubt those stats too, but is decent reference point. Any smart statistician can read and find anomalies in the data.

In terms of borrower types, I see that Salaried Vs Self Employed Vs Business borrowers, each carry their own risk and rewards.

For salaries employees, we know that they have monthly salary, the platform needs to run NACH and deduct that and forward it to lenders, ideally on the day of salary. The borrower should not be given option to move his/her money to some other account before platform can deduct that EMI. They easily get listed on platforms. They try not to fudge docs, they are generally afraid of legal notices and cough up money if pushed hard enough.

For Self employed, are the tricky ones, they can fudge numbers, have tricky credit history, and we can really find if they really need money for the reason stated. Their bank accounts are not maintained well, generally. They turn to p2p lending as last resort of borrowing, but have to IR charged.

Small Businesses overlap with self employed on a few levels, but the risk factor is less because they have established stores or units or small factories and has stable record of running the unit from the same location. The store is their bread and butter.

With salaried employees, the risk is that they might switch jobs and cities and disappear in thin air. Has happened to me.

In my research of UK Advance Manufacturing SMEs (over 1000 SMEs were analysed), I saw that capital structure (debt to equity ratios) and financing (internal or external) have little correlation i.e. firms to think little about capital structure while seeking financing. High debt to equity ratio puts a firm at real risk of default if market conditions worsen. Hence it is the job of underwriters to have ratio calculated and risk assessed. In a developed environment like UK, the behaviour is not so structured, it would be silly to assume developing environment like India’s would be structured. Hence the strength of underwriting needs to be high here. Is it?

Seasonality also affects some business. Hence nature of borrowing is important, business borrowers borrowing to stock up for upcoming business are more likely repay than if they are borrowing to pay for their high operations cost. But the problem is: in all of the business lending profiles I have seen, the reason for borrowing has been mentioned: “business expansion”; which I don’t believe. That makes the case for: if borrowers are indeed lying.

There are kind of borrower I call “smart” borrowers, who know how broken the system is and how can the legal avenues be avoided. They take the loan with the intent of not paying back at all. It is irrespective of whether they are salaried or self employed or small business owners. If some one knows the system “hacks”, system will be “hacked”. The advanced credit algorithm the platforms seem to employ may not be so advanced yet that it detects behavioural anomalies. Some platforms do claim that they use social networking platforms to analyse borrowers. For example, a person posting partying picture and holiday picture all the time on FB is a sign that he has high unnecessary expenses and thus chances of delayed payments is also high; a person with stable career progression mapped on his LinkedIn is more likely to pay back. I am not at all active on FB, yet my expenses are so high!

There also seems to be a gender bias that women borrowers are better repayers than men. I don’t believe in this myth. It comes down the character of the borrower, not gender. If someone can prove than women have better ethics that is solely because of their gender, then I want to see it for myself. I am especially scared when women borrower take loans for marriage. They will get married, change the city and job with husband and puff! Gone! Marrying on stolen money, so much for gender based ethics! Applies to men too.

The p2p lending happens are “arms-length”. That is for the lender, the borrower is on a piece of paper, somewhere in some city, being trusted with lender’s hard earned money. Arms-length lending needs iron clad contracts that are truly enforceable and use of binding arbitration rather than court to speed up the cases.

Creating an air-tight lending program by platforms is a difficult task and cannot happen without platform-lender-regulator collaboration. The loop hole today are big enough for “hackers” to pass through. We can never be sure what is the intent of the borrower.

 

#8: Scaling: Challenges that come with rapid scaling for P2P Platforms

Fintech is the buzz word for startups and investors today; as was e-commerce a few years ago. Flipkart fuelled the egos of the recently graduated “techpreneurs” and seasoned executives with entrepreneurial drive. Then Ola gave another does of adrenaline. That led to the explosion of start up funding in India. Sometimes I felt, anyone with an IIT/IIM tag, with a business idea and financial projection that more than 10x-ed the value of firms in 5 years would get funding! Only some were worth it.

The objective was simple, Angels wanted growth to sell to VCs, VCs wanted to growth to offload via IPO/PE. Iterate [read as repeat] and make money. Sometimes one startup was acquired by another for better valuation; that also worked. Exaggerated financials/growth metrics/hyped product value is the norm. All this comes with scaling and burning VC money.

A recent article by Forbes also pointed to the fact that Indian startups are likely for fail due to lack of innovation as they merely try to copy the western startups with some minor indi-fication.

I have believed that start ups that operate in stealth mode until they can sight most of the problems in future and have developed solutions are far better placed to scale than those who scale for the sake of market dominance and then end up in a mess. Same goes for p2p platforms. This is why p2p scaling is unique. Platforms put at risk: the VC money, lender money, and reputation of the entire p2p industry.

A p2p platform what is geographically concentrated and has strong recollection process and network to reach to potential borrowers are better equipped to scale in future.

Rapid scaling of p2p loans is very dangerous especially in India where the borrower market is very opaque and if someone deliberately decides to default it would be a nightmare of lenders to recover. Almost all the platforms lack comprehensive and streamlined way to deal with defaults and update lenders. It has generally been the case that unless lenders themselves don’t tell the platforms that lender hasn’t got the EMI, the platform doesn’t take notice.

I shall explain what exactly I mean by opaque borrower market. The borrower can under false pretence borrow money [several of my borrowers have done that], they can go into hiding and become untraceable. I have a borrower who works for a multinational consulting group in a metro city. Now, as soon as he got the money, he switched jobs, moved to another city, disabled contact number and disappeared in thin air. The platform couldn’t even get in touch him once after that. The collection agency also failed to locate him. This is not an unusual case, almost all the major lenders I have come across have had at least 5-6 such cases. The even more disturbing fact is that platforms themselves do not know what to do about it. After sometime, they just stop replying to mails by lenders and thus discouraging lenders to lend more.

Rapid scaling thus possess a challenge of getting highly quality borrowers thus dilution in underwriting process. Lending Club suffered from this crisis, there is nothing to stop that happening in India. RBI policy is still awaited despite RBI in it’s initial assessment calling p2p “posses risk to the financial system”.

The debt recovery procedures [laws] in India are quite lengthy, sometimes weak and certainly time and money consuming. The money lending law for local lenders does not even mention anything about recovery! Challenging someone in court to payback can take months even with all the necessary evidence. Not one borrower I know that has been dragged to court by any platform to pay dues. (Not any of the lenders I know, have also spoken about borrowers been taken to court). P2P platforms wash their hands from recovery because the “triparty” agreement between lender, borrower and platforms has wording that implies recovery is non binding on the platform thus implying the lender is left hanging dry if the loan sour. So much for giving value proposition to lenders.

As of now, I have stopped lending to borrowers from tier II cities., reduced my ticket size, and waiting for very specific type of borrowers to invest in, even if it means sitting of pile of unallocated cash.

A trend I see on some platforms is that as long as new lenders are attracted and borrowers get funded they can keep up the expansion. Sounds like a Ponzi scheme to me. All these pointing to serious ethical issues if such platforms are at all concerned if lenders are loosing their hard earned money. Lender confidence is quite fragile.

P2P lending unlike other startups is carries far more risk, especially reputational risk that can damage financial projections for p2p lending startups. Was Bank of England’s Mark Carney right when he said, “Internet-only lenders pose risk to financial system” and “losses on loans made over internet make the worst bankers look like lending genius”?

This [2017] is not the year of P2P. Nor is the next year.

P.S.: Some platforms are doing a really good job of operating in stealth mode.

#7: A View on State of the Platforms: What’s missing? – A Comparative Analysis

In his recent interview by Lending Club’s new CEO, Scott Sanborn, to Forbes magazine, (Here): “Lending Club is a two-sided marketplace model where we’re able to leverage technology to deliver savings and a seamless online experience to both borrowers and investors. We remove structural inefficiencies, giving retail investors unprecedented access to consumer credit”

The key term being “seamless online experience” to both borrowers and lenders. I started to wonder how seamless is the experience on the p2p marketplaces in India. What came out of this research is the table you will see below. This allows us to see how differentiated each platform is and where the competencies of these platform might lie.

So are Indian marketplace positioned to deliver an “seamless experience”?

Of course, they can’t be as good as LC, as of now! LC has automate investing, solid recollection process and update, openly showcases stats about their lending activities, emi collection and disbursal is smooth, no hassle there, with a click info about interest income and taxes is available, all agreements are digital and e-signed. The minimum ticket size $50 (~INR 3000) and has ability to diversify easily. But in future, why not!

Based on my observation, Below is table I have made. It describes, how on various levels are each platform is different from the other. These are the platform I have heard and read about, not necessarily all the platforms in India.

The gap is quite wide for most the players compared to LC. But no complaints yet, cause LC is a decade old, Indian platforms are hardly 2 year old.

Firstly, a quick view shows, Monexo is the only platform, yet, to offer auto investment and does CIBIL/Experian reporting. It’s auto invest feature is based on platform rations (M1-M8) and bid size. I am told they are build a bit more sophisticated auto-invest. All the other platforms have this in their pipeline and we might see it soon.

Secondly, a recent debate has propped up. One of the debates between the lenders is whether the amount should be credit to the platform wallet or lender’s bank account.

From the platform’s point of view, they probably believe the EMI should be available in their own wallets so that the money is reinvested in borrower’s from their platform and without much hassle.

From the lender’s point of view, they want to lend to credit worthy borrowers on which ever platform they are. Thus, anyone who is lending on more than 3 platforms has the hassle of managing wallets. As of now I always ask for my amount to be credited back to my bank account, so that I can route it whenever I want to borrower of any platform.

Another striking thing to note is that none of the platforms deduct EMI on date of salary, I believe this should be the case to reduce bad delays and defaults – debit the EMI as soon as salary hits their account.

Thirdly, there is a wide gap on when EMIs are transferred to lenders. Some platforms transfer it on a particular date of each month, while others transfer on ad-hoc basis.

Again a tricky thing for lenders. Ideally a lender would want one single payment in their bank account to be credited on or before 11th along with a “statement of emi and interest” for that particular month.

I put forth a lot of needs from a lender point of view. Why so? Cause the idea is to have a smooth, hassle-free lending experience not cumbersome, tedious and frustrating experience. This is how platforms can differentiate itself and attract more lenders.

The interest rate bidding is also interesting to see! I am not a fan of reverse bidding model cause the idea is to have fair deal for lender; a borrower with high credit risk may get an interest rate which is lower the benchmark range for it’s type of borrower. For example, a borrower with highest risk rating should not be charged less than say 24%, which is it’s assigned rating. If 21%-24% is the IR benchmarking for medium risk borrowers, and if the highest risk rated borrowers get say 23% (owing to reverse bidding), then it’s not fair deal for medium risk borrower who might get 24% and the lender too! The risk reward angle is skewed here.

On the contrary the fixed rate model is purely based on credit algorithm of the platform which is “supposed” to undertake all kinds of risk into account. The open auction model, allows lenders to determine their risk-reward appetite and then bid.

In essence, reverse bid models and skewed, open auction are pro-lender and fixed rate is “supposedly” balanced.

So, for the concluding remarks, the gap between LC and Indian p2p players is wide but within reach. The platform that provides simple, elegant and seamless experience will win the race to get more attention of lenders. Most lenders have after all p2p as a side activity, and this should not consume their free time or clash with their day-to-day working hours.

#6: Monthly Update – March and Yearly Report

So, finally march has come and it’s year financial ending it and time to look back and appreciate what we have achieved during the last year. P2P has been the least talked about fintech phenomenon since the advent for fintech buzz in India. But interestingly Rajat Gandhi, CEO Faircent, says this could well be the year of P2P and he could be right. We have been here for long about 2 year now. And seen a lot of ups and downs and as we look forward we see a whole lot of challenges ahead of.

So how has been the past year for p2p for me? This has been a very tricky year, the biggest challenge has been maturing portfolios and ratio computations. Above are the graphs for the month. (Avoid the April graph, it is not updated).

The highlight of the month has been that more than 26% (i.e. 1 in every 4 has) has been pending for the month. This is a very high number and bad way to close an other wise decent year in terms of repayments. Uptil September 2016 I did not have major problems about repayments but after that there has been spike in the repayments. This is the year that I decide not to infuse any additional capital from my other savings and break my bank. I want to see how the EMI rotation works.

I good sign is that the gap between loans given and EMI received has been in close range and limited external capital is needed. The objective is that the EMI received should be at most 5% more than loans given. That would mean I always 5% as free cash with me while 95% is the cash [EMI] utilisation rate. In the coming year, with no more capital injection, the EMI should be more than loans funded, but the free cash can vary anything between 0% to 20%. This additional free cash of +15% can be adjusted in the succeeding month by giving additional loans.

One more criteria I have decided to follow is not fund anymore more than:

1. What is their 1 month salary
2. With a cap of INR 50,000.

This will allow me to limit my NPAs. I have quite a lot of NPA where I have lent more than 80K and they have defaulted. It was a very bad situation I found myself in due to my undisciplined investing.

Yearly Overview

In absolute numbers it is easy to calculate interest income and defaults number. But the bigger challenge is to find the ratios. Default ratio, Return on capital, IRR. I have defined default as 3 months of non repayment of loan. This is appear in my PnL and provision/expenses. The ratio of sum of all unpaid loans (principle only) to capital employed is the default ratio.

It is very tricky to calculate returns ratio. This is because the return can only be calculated with you have booked profit. In lending business both principle and interest, come over a period of few years and profit cannot be booked until a loan is closed. But once a long term loan is closed the financial year in which it was give has already passed so the ratio is not applicable anymore. Another way is to sum all the interest income and divide it by the invested capital during the year. But there is a flaw this is approach too. The interest income earned in a particular month and given and new loans the same or following months also becomes invested capital. So each month the invested capital increases and you will have to find the ROC for each months invested capital and then average it. Another very simple way is to simple calculate the total interest income earned and divide it by the capital that you initially put at the beginning of the year. This will overstate the ROC by a several basis points. Going by this calculation my ROC is 16.61%, including the default and sub-prime rate; and my default rate stands at 5% and sub-prime rate at 5%.

If I wanted to recover all my invested capital I would have to stop investing any new loans and just in take the EMI for two year period. Assuming 5% of emis get mature each month, I would take 20 months to fully close my p2p account and if x is the each month EMI I get and reduces by 5% each month then:

Total EMI “∈” = ∑ x*(1 – 5%*n) | for n = 0 to 20

The ∈ should be greater than the invested capital, I have not assumed default rate. Now, assuming a default rate at the given level of x, my ∈ will not be more than my investment thus I will have incur a loss at my current x level. However, by the end of the year my ∈ should that magic figure. For longer the time you keep reinvesting the larger your x gets; the larger your x then quicker your reach your capital invested.

SME Lending: Is it secure?

SME is lending is providing access to capital to SMEs that find it difficult to get credit for long or short term borrowing. The SME could be anything from retail cloth shop to mobile accessories shop that can sell their products in a month or so.

For short term borrowing the idea is simple. A retail cloth shop for example, buy clothes from a wholesaler on credit and pays after a couple of week, generally 4 weeks. This becomes a unbilled asset for the wholesaler – which he does not really want. What the wholesaler wants is to get the cash ASAP. So there is scope to provide credit worth SMEs access to capital for short term to finance their current liabilities at a certain interest rate. Just like p2p it has it’s own challenges. The major challenge being, if the clothes go out of fashion before they are sold then the retailer will find it very hard to repay back the amount. For the retailer there is no other way or constant source of income other than the retailer’s shop.

I have lent to a few local SMEs – Krushi Kendra (farmer shops for seed, fertilizers and pesticides etc.) and seen delayed payments but no defaults. But it always gets on my nerves when payments are delayed by more than 1 month. If the rainfall is not adequate the farmer is unable to pay to the krushi Kendra and the owner then is unable to pay to lender. On the other hand, if there is a bumper harvest, then prices of commodities will drop and farmers may not get the prices they seek and again it gets hard for farmers to payback.

There are other kinds of SME like advance manufacturing SMEs that can be lent to but that requires a far larger sum and needs institutional backing rather than p2p model.

In Summary

While p2p industry, fintech in general, continue to expand in the coming year, lenders have to very careful about how to chose to invest and large investors move towards “cross over point” – where EMIs can fund upcoming loans and avoid additional capital injection.

As for the new and small investors, choose quality of profile over IR, to make sure your returns are stable and develop lending savvy.

 

 

 

 

 

 

 

 

 

 

 

 

 

#4: Monthly Repayment Stats Update

This month has been quite an activity for repayments. I decided to constantly chase platforms for repayments as I was very disappointed with the repayments in January.

I collated my data and sent across all the platform on the day and chased them on answer every few days, sometimes multiple time a day. It is very important that we lenders we a track of our borrower and not expect platforms to chase until we ask them to do so.

I set aside 15th of each month to check all my payments and then on 16th I send all the pending EMI list to platforms including payments of previous months. I keep a separate spreadsheet for all this data.

Coming back to the stats and data, I was afraid that the repayments would get very worse and at which point I would stop p2p altogether. I must say p2p is not for the weak at heart. I have shown a lot of patience and faith in all that I am doing and it scares me sometimes. But unless my portfolio does not mature I shall continue to lend.

By maturity I mean that all of my 24 months loans that I have given in 2016 should see their closing in 2018 with less than 5% default rate. That would indicate a bank like behaviour of the portfolio with sustainable profits. With p2p industry maturing more in 2018, the repayments behaviour should continue to remain constant or better.

Below is the data for January 2017.

 

As you can see, 81% of the loans have been received on time, which is good number compared to previous 5 months. I am not sure what is the underlying cause of this behaviour but probably has to do with the fact that people are out of their holiday mood. In my previous article #3: Defaults, Delays and Repayments, I reasoned that due to festive season like Navratri, Diwali, etc and #DeMonetisation and then New Year all falling in the beginning of each month there was large delay in repayment and spike in non repayments. I am keenly watching if non repayments stay with an average of 5%. At 5%, one can assume profit, generally speaking, but more than that one assumes zero profit. So, watch out for March statistics in April. Where I will share my portfolio’s entire year’s performance.

The non repayment stands at 7% which is higher than 4% in Dec, which is not a good news. the 12% delay in repayments is far better than past 5 months. 10-12% delay in repayments is expected. Again I stress the fact as in my previous blog #3 that unless ECS/Direct Debit or what ever fancy name banks want to use to auto debit borrower’s account, does not happen on the date of salary you will see this trend. As of now, NONE of the p2p platforms in India have set up direct debit on salary date with any of the borrowers.

The above data is far more accurate and cleansed from then that previous data as I find ways to improve the quality and methodology. This all data is painstaking created in excel and spend more than 5 hrs just to make sure data accuracy in 100% anything less than that is not acceptable.

My portfolio fairly mimics my Lendbox’s portfolio as I has highest exposure to it. All in all I am bit more relaxed this month about recoveries for the previous months and hoping that better result is seen in Feb and in March I shall share the distribution graphs of all the repayments.

Kindly share your thoughts and idea in the comments below or write to me directly at ishankukade@gmail.com! Please do subscribe for auto updates.

#2: Bank Lending Vs P2P Lending

A shareholder in Lending Club (US’ only listed p2p firm) recently said it’s time to dump it’s shares because banks can catch up to these platforms and out do them. He couldn’t have been more wrong. Critics are quick to point that banks have lower cost of lending, they have better infrastructure to lend, they have more reach and people trust them to do business properly. Well, all of that is indeed true. But despite this the industry is p2p picking up and some wonder how does p2p and banking fit into the entire lending landscape? Do they compete or complement? Who has a less risky model? Banks with their infinite and wealth of experience or p2p platforms with their new data and tech driven approach? These are some pressing questions I try to answer in this blog entry. After all, lenders want to know if p2p is lasting phenomenon or temporary elbow shot for banks.

The rise of p2p in India, and across the globe, has been mainly due to people with low credit score or people having immediate requirement or due to reasons that are unusual for banks fund a loan. People with low credit score (say less than 650 in CIBIL rating) can be rejected by banks even for collateralised loans. Banks generally take more than a week to collect documents and process application. For someone with immediate requirement, say medical, a week can be a long time. However, the time might get reduced as banks and NBFCs can up to the technology and better processing, but would they still approve the loans? Then there is obvious question of exposure to uncollateralised loans. Can banks rake up large exposure to such loans? Does it suit their risk appetite? In US, Lending Club, funded about $2B in Q2-2016! It is one thing to have bad NPAs but when you NPAs have no collateral, it is scary. Imagine banks raking up $2B in unsecured loans in just one quarter. Stock prices tumble, bank bonuses go down, bad press, more regulation, loss of job, and what not!

The banking model is quite simple at gross level. Banks takes deposits from general populace. They give them nominal interest that can just beat the inflation so that the value of money remains constant. They also offer other deposit schemes likes Fixed Deposit where the tenure of cash is fixed and IR is a bit better. Then they use cash lying in your accounts and fund corporate and other people who seek loans – housing, vehicle, project loans. The difference between saving/fixed deposit rate and the loan interest rate is the revenue for the bank. So banks have to be careful while lending because it is not bank’s money. It is money of the depositors. But what if you were skilled enough to know whom to fund and whom not to? What if there was someone else who could help you get leads for lending and also do credit analysis and the you can charge that borrower what banks charge and earn what banks earn! That is where p2p comes in.

P2P firms have no balance sheet exposure to loan liabilities, they pass that on to the lender. So each lender is bank in itself. The lender uses her or his own deposits and advances the loan. The risk lies with lender and is only answerable to self. So, this way p2p lenders compete with banks.

But the unsecured lending landscape is very vast and banks and NBFCs cannot build large exposure to such unsecured loans anyway. If they were ready to build exposure, then they would have already tapped that opportunity and started lending. But that is not the case. Personal loans are lent but to extremely credit worthy people not the ones p2p tries to lend. Thus p2p has helped increase access to credit to beyond a category of people to whom banks were lending. But if a bank is categorised as ‘too big to fail’ and it does fail, then we have plague running through the system. Since the funding of loans is done by hundred-thousands of people so the risk is not with one single bank but spread across 100,000s of lenders and thus not possessing any systemic financial risk to economy. This way they are complementing the banks.

The compete-complement mix will push p2p and banks into each other’s territory; meaning banks might increase exposure to personal loans when it sees strong loan performance of p2p borrowers and p2p will evaluate ways to fund collateralized debts like LendingClub for refinancing car debt and a Korean p2p firm has done for real estate financing for a major realtor company. May be that is why p2p is already evolving collateral lending in India too – faircent and loanmeet have bike loans and lendbox as loan against shares.

In any case, lenders looking to use their large deposits and looking for ex-capital market and ex-real estate returns for constant cash stream are likely to witness a wave of loans coming their way. Happy lending!

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