In the not too distant past, peer-to-peer (P2P) lending was seen by some investors as a way to fund (and earn interest from) loans at any time, at any size, at any investment grade and at any interest rate. If a borrower was willing to accept or be “matched” with these loan terms, P2P investors felt that if this was a risk each party was prepared to take – end of story.
What’s not factored into this scenario is the intermediary, the P2P lending platform, which makes these loans and investment transactions happen. The platform must comply with ASIC’s responsible lending requirements and this means reviewing whether the loan is suitable for the borrower (that is, can they afford to pay?) – an outcome that arguably suits investors in the long term.
This, combined with tighter lending criteria at all financial institutions, has reshaped the way Australia’s P2P lending market looks and operates in 2020.
John Cummins, SocietyOne chief investment officer, says this P2P scenario unfortunately creates an investment bias where investors would only source the “best” or highest-paying loans on offer. In this case, an investor couldn’t have more than one or two of these loans in their portfolio facing delinquency because they’d start to lose capital.
“If I give them [the investor] an average loan size of $20,000 and I give them five loans, then one goes down – not only are you not getting any money [from that loan], you’re starting to lose people’s capital,” he says.
Since its beginning in Australia, SocietyOne’s P2P lending product has remained in the realm of self-managed super funds and wholesale and institutional investors – those with gross income of $250,000 for each of the past two financial years or net assets of at least $2.5 million.
However, the lending platform has always planned to offer its P2P product to smaller investors and Cummins says this day is near. To onboard smaller investors, it will use a pooled trust where they can buy fractions or units in the trust rather than fund entire (personal) loans.
The idea behind pooled trusts is to pay a solid coupon to investors throughout the life of the loans. And SocietyOne is by no means the first P2P lender to do this.
Chris Morcom, director and private client adviser at Hewison Private Wealth, cautions investors to learn the difference between pooled and contributory trusts, particularly when it comes to P2P lending in mortgages.
He prefers contributory trusts because each client has a defined account/mortgage allocated to their investment. They’re only exposed to the mortgages they’re invested in, which brings a great deal of transparency.
A downside is that they don’t get the breadth of loan coverage that a pooled trust would have. And if one borrower defaults or applies for hardship, there’ll be no income, whereas a pooled trust can possibly cover this cost because it’s dealing with hundreds and possibly thousands of loans in the one product.
Minimising the risk
To help monitor the default risk, Morcom says he’ll limit investments to a loan-to-value ratio (LVR) of up to 67%. “We will not touch a secured first mortgage with an LVR of 67% or above. In fact, it will often be lower – between 50% and 60% gets a much greater amount of scrutiny from our investment committee.
“That’s conservative. We don’t want to lose capital in this part of the client’s portfolio and [lose] a reliable cash flow. The shares part of the portfolio is meant to be the volatile bit.”.
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