Investor Guide To Alternative Lending Regulations. Part 1

This article the following topics, and aims to provide some clarity to potential investors into the alternative lending market.

• Alternative lending defined
• The state of regulation for alternative lending:

1. China
2. USA
3. UK
4. Asian markets

• The risk of over-regulation in Asian markets
• Blockchain as an alternative to regulation
• Conclusion — what to look if you are investor

The problem with trying to write about alternative lending regulations is that it is a moving target! The speed of innovation in the FinTech world, the emergence of new business models and the potential for banking, insurance, legal and regulatory disruption mean that anything written today may be irrelevant tomorrow.

This is at the heart of the difficulties being faced by regulators around the world. It has led to very different approaches from different countries. Some are reactive — for example the US — and are trying to apply existing rules and regulations to the emerging technology. Others are more proactive — for example the UK and China — and are developing more FinTech-specific structures. The challenge is to balance the need to protect lenders and borrowers with the need to encourage innovation.

There is a pervasive theory that FinTech operations are free from regulation and this allows them to operate quickly. Others argue that these companies are subject to significant regulation. What is certainly true is that regulatory uncertainty will hold back growth, innovation and investment.

Alternative Lending Defined

For as long as most of us can remember, there were only two ways for a small to medium sized business (SME) to get a loan:

• Traditional banks
• Friends, family or loan companies

For too many SMEs, traditional banks are not an option. They may lack collateral, have poor credit records, or no credit record at all. Banks resist the time and cost involved with providing small loans to small businesses.

The World Bank estimates that more than 50% of formal SMEs have no access to finance. This number grows to 70% if informal and micro SMEs are added. The total unmet demand for credit by SMEs is estimated at $3.5 trillion, a third of it in OECD countries and the balance in emerging economies. This funding gap represents a threat to economic growth around the world.

(See our post “Fintech rewrites the rules for SME funding — and everyone wins!” for more information on SME funding.)

FinTech companies have stepped into the gap, and are taking up the role previously filled by friends, family and loan companies. They provide online platforms with “alternative lending” or peer-to-business (P2B) solutions for SMEs.

There are various models of alternative lending for SMEs, including invoice and payables financing, crowdfunding and loans from platforms such as Amazon and PayPal. However, there are three main models:

• FinTech companies use their own balance sheets; they raise capital from institutional investors to make online loans to borrowers.
• FinTech companies set up peer-to-peer platforms that connect institutional and retail investors with borrowers
• FinTech companies set up platforms where borrowers can compare and select offerings from various lenders.

The term “marketplace lending” (MLP) is widely used. We prefer the term “alternative lending” to more accurately include the companies working off balance sheet.

At first, these solutions were regarded as “fads”, largely disregarded by regulators and traditional banks. However, they have grown exponentially and are becoming mainstream competitors. They now have the full attention of regulators.

Read Investor Guide To Alternative Lending Regulations. Part 2>>>