Can P2P platforms serve as a reliable source of debt financing?

P2P lending is gaining momentum in India. Last month, Fi, a neobank, announced that it would offer P2P lending to customers with returns up to 9%. Fi is only the latest entrant. A few months ago Bharatpe made its debut with the 12% Club and Cred Mint launched its 9% earning platform.?

In truth, Bharatpe and Cred serve as the conduit to a credible market of borrowers. The real players buttressing the P2P game are licensed players (NBFC-P2P) such as LenDenClub and Liquiloans. For example, Bharatpe has a full view of transaction data of millions of merchants, and hence knows them inside out. And LenDenClub gets access to a market of low-risk borrowers to lend to. And how do these NBFC-P2Ps work??

Typically, they earn the difference between the interest charged to borrowers and the returns paid to the lender. These companies rely on cheap funding and highly automated operations to make their economics work. Partnering with players like Cred and Bharatpe gives them access to a surplus of low-credit-risk borrowers.

A delicate game of positioning

If you observe the positioning of all players involved in the P2P lending value chain, a clear pattern emerges — their marketing efforts are designed to lure investors with the promise of higher yields — ranging from 9% to 12%. Of course, attracting investors to the platform ought to be the No.1 priority — as the business of onward lending cannot take off without onboarding lenders at scale.?

However, no matter how intensive one’s marketing efforts are, in reality, matching individual investors with individual borrowers is not as easy as matching an Uber driver to a passenger.?

The more efficient way is to source funding in bulk from institutional investors. And this is already happening. For example, borrowers other than merchants on the BharatPe platform are financed by NBFCs such as Hindon Mercantile.?

Institutional investors, banks, NBFCs, and even co-lending partners are slowly wriggling into P2P lending territory.?

Hence, it’s only a matter of time until P2P lending transitions to marketplace lending.?

P2P players may hit high walls in the long run

The main challenge for P2P lenders is to create real customer value for both borrowers and lenders.

The current? general frenzy in the P2P market to fetch the best return for investors will soon drive away good borrowers. Because P2P platforms aren’t the only option for sub-prime or new-to-credit borrowers. There are umpteen players, including banks, who have forayed into this new ‘credit gap’ market. The pressure to offer competitive rates is real, especially as products for the underbanked and unbanked multiply each day.

It’s of utmost importance that P2P players attract a variety of borrowers whose risk profiles match lender preferences.?

Because here’s what typically happens — P2P platforms exercise discretion on investing lenders' money, they build a diversified loan portfolio for each lender, limiting exposure to individual borrowers. Investors are happy as long as returns are credited into their account. But delinquencies are likely to go up during downturns, and this is when the mismatch between the lenders’ risk preference and borrowers credit profiles become pronounced.?

At such times, retail investors who flocked to these platforms without fully understanding underlying risks are likely to make a fuss. This will earn platforms bad rep, no matter how good their algorithm has been in weeding out unscrupulous elements. Even if delinquencies don’t translate to defaults, they are bound to pose serious liquidity challenges. And this may alter investor perceptions, leading to massive withdrawals, and in the extreme case, cause ‘runs’ on the platform.?

Maintaining commensurate supply and demand on P2P platforms is a balancing act.?Hence, reliable sources of capital may prove indispensable for building sustainable models.