As the current situation due to the Covid 19 virus keeps dragging on, its impact on the lending business cannot be ignored. Challenges are many, but so are the opportunities that lie in the changes required from lenders. A smart strategy relying on dataflow and evaluation is of pivotal importance. So what does the current crisis mean for lenders and businesses working with loans? And what does i2 invest do to protect its investments?
The challenges
With the markets and businesses as well as consumers struggling new approaches to lending and the assessment of borrowers are necessary. McKinsey states that the emphasis needs to be on the implementation of “high-frequency analytics” with a drive toward “real-time, data-driven analysis and decision making” in its article on managing and monitoring credit risk after the covid 19 pandemic[1]. They also add that a separate analysis of sectors and subsectors will be of paramount importance as no generalized conclusions can be drawn in such circumstances. This means that large-volume data gathering will be a key factor. PWC adds to this by recommending the identification of at-risk segments and geographies to combine those findings when it comes to loan servicing[2].
In a report, Deloitte stated that “While the media focus has been on companies, the entire loan book of lenders is coming under increased scrutiny.”, this is all the more a problem as they further point out how “existing credit rating systems for early detection of problem cases are overburdened” as they are not designed to evaluate the created combination of a supply and demand side shock[3].
This is underlined by the fact that there is a massive increase in accounts opened through digital channels. PYMENTS.com published an increase of 200% in such signups in April 2020. This massive influx leads to a need for new evaluation tactics and more efficient monitoring, checking, and selection systems for loans, loan originators, and marketplaces in lending, particularly in the digital lending market[4].
How we protect our investments
1. Diversification
It may seem somewhat redundant to mention diversification at this point, as it is common knowledge that this is key to any smart investment strategy, not only in marketplace lending but across any investment type. However there are in our opinion multiple levels to diversification and although many offers may seem diversified on the surface, only a few products and services manage to achieve true diversification. What do we mean by true diversification?
To us, this refers to a diversification not only over multiple loans or loan types but across all of the 40+ criteria upon which we categorize loans. This includes things such as different marketplaces, loan originators, loan types, loan duration, regionality, loan segments, loan size, and many more. By gathering, standardizing, and presenting this data, our software platform enables this process of true diversification.
2. Collateral as a key factor
The inclusion of collateral-backed loans is an absolute necessity for a healthy loan portfolio. Focussing on such loans is exceptionally important, but what is even more important is the evaluation of the posed collateral and all collateral-based loans across one’s portfolio. Having healthy collateral underlying the loans helps dramatically reduce the risk profile of any portfolio.
3. Data
To quote William Edwards Deming: “Without data, you're just another person with an opinion.”
The collection and evaluation of data lie at the heart of our every activity at i2 invest. Our software allows us to gather data from a large number of marketplaces, standardize and analyze it, and make intelligent decisions as well as set automatic procedures that ensure maximum security and adaptability. We can see changes in real-time and therefore detect momentum showing in which direction developments are going in general but on a much smaller scale. If drastic negative development is detected, we are able to sell our positions, even though we try to persevere as long as possible.
Ultimately it is all about the price. Some debt will bounce back fast, in particular, if it is backed by sellable collateral as mentioned above. Our data helps us evaluate such situations and to detect potential defaults, but at the same time also shows potential upsides, opening up the opportunity to buy distressed loans with great potential.
Going forward: what is going to change?
The current situation, however long it will take, will certainly have a measurable impact on the (digital) lending landscape as we know it. Certainly, some actors will fade, as those who did not follow the required procedures or did not sufficiently adapt will struggle. On the other hand, we see considerable potential for this to lead to significant regulation and standardization across the board. And the ones that survive should be able to build on a strengthened basis.
In general, we are convinced that this will solidify the field going forward opening digital lending to a broader institutional and professional sector. Finally, one development should stay for good: lending, regardless of the type, will be more digitalized and therefore more efficient and transparent. This will provide an opportunity to deliver better products to borrowers while generating attractive returns for investors.
[1] https://www.mckinsey.com/business-functions/risk/our-insights/managing-and-monitoring-credit-risk-after-the-covid-19-pandemic
[2] https://www.pwc.com/us/en/industries/banking-capital-markets/consumer-finance/library/consumer-lending-coronavirus-response.html
[3] https://www.pwc.com/us/en/industries/banking-capital-markets/consumer-finance/library/consumer-lending-coronavirus-response.html
[4] https://www.fintechmagazine.com/financial-services-finserv/consumer-and-business-lending-during-covid-19
