Banks make a killing – using your money.
Britain’s uncompetitive financial services market means that they can pay savers little or no interest, and lend out that money to borrowers at huge multiples of the Bank of England’s base rate.
I bet you’d like a piece of that!
Well, now you can make exactly the same kind of profits – using peer-to-peer lending (P2P). It’s a sector I’m personally investing in, backing the platforms that make this economy possible. It’s a sector I’ve been personally watching of for a long time, as I hold investments in both the property and crowdfunding markets.
Crowd funding and P2P lending are fast becoming an established part of the investment landscape. There are a growing number of players, with a diverse range of offerings. I believe it’s important for investors to gain an understanding of what’s out there, and whether it might be right for them.
Today, I’m interviewing Relendex, an exciting property crowd-lending firm, and one of the first secured P2P lending platforms. Now, I’ll hand you over to Michael Lynn, founder and CEO. He’ll give us a unique insight into this exciting emerging market.
AL: What was the perceived market need that peer-to-peer lending solved?
ML: Back in 2008 when the global banking crisis happened, the banks stopped lending and business was starved of essential capital. In the UK particularly, where lending was almost exclusively concentrated in the hands of the clearing banks and insurance companies, the effect of these institutions withdrawing from the market was particularly dramatic. As banks’ balance sheets started to contract, and regulators told them that they could lend less (as a proportion of their capital) the situation deteriorated further, over the next three years. But there was another effect of the crisis – one that created its own problem for savers and investors. Because interest rates had plummeted and investment yields had dropped to historically low levels, no one knew how to get a decent return on their capital. Back then, as now, savings rates were at 2% or 3% per annum, or less – depending on the type of account, and term of deposit.
AL: How did that affect UK business?
ML: The effect was almost immediate, with small to medium-sized businesses (SMEs) being denied essential working capital. Personal credit was cut back dramatically, and large asset financing (including real estate) was brought virtually to a standstill. The banks were trying to reduce their exposure to all lending categories, as fast as they could.
AL: What did you decide to do and why?
ML: My colleagues and I were aware of the creation of Zopa, the first peer-to-peer lender. This had been set up back in 2005, to provide personal loans by establishing an online exchange that matched individual borrowers with lenders. It demonstrated that, with the latest technology, a low-cost solution was possible that brought together multiple lenders in a single loan, in an automated way. This was a fractional lending model based on the idea of syndicated loans that the banks had been using for years but for smaller loans. It was a win-win for borrowers and lenders. Borrowers could get the funding they needed, and lenders could get a proper return on their capital. This was a better business model for both parties – and gave the lion’s share of the interest to lenders, rather than to the banks.
AL: What made you think that this idea could be applied to commercial real estate?
ML: As an old-fashioned chartered accountant I had worked for an investment bank some years earlier. Part of my role related to UK and European commercial property lending and so I understood the main drivers. My colleague Sam Rosen, a chartered surveyor, had a number of complementary skills – and he understood a lot about property investors’ and developers’ needs and behaviour. We did extensive research, and spoke to many industry players – including owners, agents and finance brokers. We got a lot of positive feedback because the property market was desperate for funding. So we came to the view that the model would work because it met a fundamental need for both borrowers and lenders. It provided security for the lenders, using a hard asset that could be independently valued. In other words, the borrower gets the funding he needs at a fair rate; and lenders get a much better return than they could get elsewhere, with security. We thought that was a compelling proposition.
AL: How did you get from the idea to a live business?
ML: We wrote a business plan and built a website. These set out our proposition, and got engagement from the market. We knew that we would have to build a trading platform that did the online matching – and that was expensive, so we had to raise capital to do it. We assembled a board of bankers and property professionals to help us. We brought in Peter Johns, a respected Rothschild senior banker, as chairman; Mark Shipman, a well-known investment agent; and David Benson from Nomura. We put together a friends-and-family funding round, and then pitched the concept to 100 business angels. Of course, fundraising for a startup was tough – but once people understood the idea and the milestones we needed to achieve, they came on board.
AL: The UK government seems to be keen to promote crowdfunding generally, and peer-to-peer in particular. Why is that?
ML: The government realised that the dependency on banks and a few large institutions for all the country’s funding needs was a systemic weakness in the UK economy. They took the view that a 2008-type financial crisis could not be allowed to happen again. Or at least, if such a crisis did occur in the future, it mustn’t bring the entire economy to a grinding halt – simply due to a lack of funding form a single concentrated sector. The dependency on banks needed to be reduced, and an alternative finance sector needed to be created and encouraged. Obviously, it needed to be properly regulated, with appropriate oversight – and the government set about creating the necessary framework, and legislation, to allow that to happen.
AL: Could you clear up the difference between crowdfunding and peer-to-peer lending?
ML: Crowdfunding is typically where a number of investors come together via an online platform to fund startups or growing firms – and you could check out Crowdcube as a good example of this. Obviously, the type of businesses looking for funding varies enormously. Crowdfunding is usually an equity investment in the shares of the company. As such, it can provide great returns if things go well – but your capital is at risk if things don’t work out. Peer-to-peer lending is where the requirements of a borrower are met by a number of lenders coming together, through an online platform, to meet the requirement.
AL: OK but aren’t there different types of peer-to-peer lending platforms?
ML: Yes, there certainly are – with widely varying risks for lenders. A lot of the bigger players in the market have focused on lending to small and medium-sized companies, helping to support their expansion. Others lend to individuals. There are also a number of secured lenders, lending against a range of underlying assets: invoices; plant and machinery; or some form of real estate.
AL: Where does Relendex fit in the picture?
ML: All of our loans are secured against commercial property assets – ranging from development loans, through bridging, to longer term investment property loans. We aim to produce a conservative product with an eye to capital security – so typically we only lend around 50%-60% of the actual value of the property.
When I founded the company, my vision was that there is a long-established commercial property lending market – but the opportunity to invest was generally restricted to banks, insurance companies, funds, and a small number of very-high-net-worth investors (sometimes in syndicates). By offering access to this market from as little as £500, we like to think we are helping to share the returns with a wider community.
AL: Can you give an overview of the peer-to-peer sector – the key players and their focus?
ML: I’ve already mentioned Zopa, which is now a large business lending to individuals and small companies. It has applied to become a bank, so is actually moving away from the P2P model. Funding Circle was an early entrant to the market, and it has a large loan book. Its focus is SME lending, but they previously lent against property – until recently withdrawing due to competitive pressure. The other large player is RateSetter – which started out doing personal loans, but moved into SME and property lending in order to grow more quickly. LendInvest is another property lender – but it is not actually a P2P platform, and it has recently announced that access is now restricted to high-net-worth and sophisticated investors. There are a number of smaller players focusing on SME or property lending. A few, like us, are fully authorised by the Financial Conduct Authority (FCA). However, not many of them have an automated platform that allows people to participate in loans in real time, or buy and sell through a resale marketplace. We think this secondary market is important, and provides liquidity to all lenders. As our lender client base expands this has become increasingly active.
AL: How does Relendex make money?
ML: Our model is entirely transparent for potential lenders to see. We usually charge an arrangement fee to the borrower – which covers the cost of us doing detailed due diligence, getting a survey, and marketing the loan opportunity on our platform. We also charge a fee, usually around 1%-1.5% per annum. This is related to the size of the loan. So, for example, if the borrower is paying 9% we might be paying 8% per annum to the lenders. We are able to do this as we have much lower operating costs than large institutions.
AL: Is it difficult for potential lenders to get involved?
ML: I certainly hope not; we’ve spent a lot of time and energy trying to make the process simple. If a lender wants to give it a try they go on to the site to register. As part of this process, they will open a client account with us. Once they have put some money into their account they can start bidding on any loan propositions that appeal to them. The website is designed to be intuitive – but if anyone wants extra assistance they can speak to one of our team, who will guide them through the process.
AL: Can lenders chose the loans they want to get involved in?
ML: Yes. We provide a lot of financial detail in a virtual data room. Here, potential lenders will find details of the loan, and the prospective lender. This includes a valuation carried out specifically for their benefit. Once they have found a deal which appeals to them, they simply place a bid. If successful, they will end up personally owning a share of the mortgage directly with the borrower.
AL: How safe are these loans?
ML: As I said earlier, we like to take a conservative approach – but of course the lenders’ capital is at risk in the event of a disaster. However, since we only lend around 50%-60% of the value of the underlying asset, we like to think the loans are relatively safe. We are one of a small number of secured peer-to-peer platforms that are fully regulated by the FCA, and we take our responsibility to lenders very seriously. In the three years we have been in business we have not had any loans default – and we hope to keep it that way.
AL: What about tax?
ML: We do not deduct withholding tax from lenders, so they will need to account for the interest in the personal tax returns in the usual way. We’ve also recently launched an Innovative Finance ISA, so qualifying lenders can get their returns tax free, within the limits that ISA legislation allows.
AL: That’s interesting, tell me a little more about your new ISA?
ML: As soon as we became fully authorised by the FCA we applied to become an ISA manager. So now lenders can use their annual allowance, and can transfer in any accumulated amounts from other ISAs they may already have. They would have a separate client account for their ISA funds – but otherwise can lend in auctions, exactly as described earlier.
AL: Interest yields are pretty low these days, what kind of returns could a lender expect from you?
ML: We aim to provide lenders with something between 8% and 10% on development and bridging loans and less than that say 6%-7% on investment loans.
AL: What kind of properties do you lend against?
ML: We have financed all kinds of assets, and I’ll give you a quick summary. We’ve backed wind turbines, where the income is guaranteed by the government; industrial developments; commercial properties (shops, offices, leisure); and development or refurbishment of residential properties, such as houses and blocks of flats.
We’ve funded some notable properties, too: Grade II listed buildings that have been converted; and the restoration of a terrace of Georgian houses, for conversion to apartments.
We also have good geographical spread and have provided financing for properties from Edinburgh to Newquay. Provided the borrower is sound, the security is strong and the transaction makes sense – then we’ll consider it. We do extensive due diligence on the borrower, the asset and the contractors and tenants, where applicable.
AL: Once I’ve got a loan part, am I stuck with it until the loan ends?
ML: No, we have a very active resale marketplace, which you can see on the website. Here, lenders can list the loan parts they have for sale at any time. It is not an underwritten market, and all deals are on a matched-bargains basis. We don’t charge any fees or commissions for this service, so you can see exactly what you are getting. At the moment most of our loans have a duration of 12-24 months and interest is paid usually quarterly throughout the term. Since it’s a matched-bargains process there is no guarantee that you will be able to sell when you want to, but we haven’t experienced that problem so far.
AL: As one of the early movers in the peer-to-peer space, where do you see the market going?
ML: The market has grown significantly in the last few years and is now establishing itself as part of the lending and investing landscape. As the market has grown there are a lot of new entrants popping up all the time with different offerings. Some of the longer established firms are busy turning themselves into banks. I believe that there will be failures in the sector, and I very much hope that this does not mean that all will be tarred with the same brush. Nevertheless, there is potential for fallout in the unsecured sector, if economic conditions deteriorate. As I’ve said we only write fully secured loans, and we take a conservative approach. Our senior management team have a great depth of experience in different market conditions, and we approach all developments with caution. I anticipate that peer-to-peer (or marketplace lending, as it is increasingly referred to) is here to stay.
AL: And finally, what’s next for Relendex?
ML: As the business grows we learn more and more about our lending community. We have been surprised by how many of our lenders conduct their relationship with us using their smartphone, so we will shortly be launching a mobile app. This will be followed by a payment gateway to further simplify the process. We’re also looking at how some people may be able to use some of their pension funds to access the interest yield we can offer. All that will keep us busy for a while!
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