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Big banks muscle in on peer-to-peer lending

News analysis Individual investors are getting pushed out as the industry matures, writes Tracy Alloway
This year 15 employees from Bank of America, Citigroup and JPMorgan Chase applied for a collective $235,000 worth of loans. They did not ask their own employers for the money. Instead they got the funds from Lending Club, part of the growing “peer-to-peer” sector that uses the internet to match directly would-be borrowers with lenders. Such “P2P” lenders aim to revolutionise credit by cutting out, or disintermediating, banks from traditional lending. Using new technology, they have been able to extend loans at lower rates to borrowers than traditional bank loans while offering higher returns for investors. Yet the distinction between traditional finance and the P2P sector is growing fuzzy as P2P lenders tap demand from institutional investors and as those investors apply Wall Street techniques to the loans. This month Eaglewood Capital, a New York-based investment firm, bundled $53m of P2P loans into the kind of sliced-and-diced bonds that gained notoriety during the subprime crisis. There is talk of more securitisations to come, as well as exchange traded funds and secondary markets where large investors can trade the P2P loans they have already bought. “The next major development is a secondary market. There will then need to be credit ratings, exchange traded funds, a Bloomberglike terminal, everything you see today in a mature financial market,” says Matt Burton, an entrepreneur who has built a platform that helps large investors invest in P2P. He plans to apply next year for a broker-dealer licence to create a secondary market for the loans. Investors in the safest loans available to buy on Lending Club’s platform can earn returns of 5.57 to 9.16 per cent – far higher than the 2.51 per cent from 10-year US Treasuries. That has helped lure big professional asset managers to an area once dominated by individual investors. “They see the opportunity to enhance yield,” says John Mack, the former Morgan Stanley chief executive who sits on the board of Lending Club. Morgan Stanley’s wealth management division has invested about $100m in P2P. Lending Club and Prosper say more than half of their loans are bought by big institutional investors such as hedge funds and pension companies, or funds investing on behalf of individuals. Much of that interest has been buoyed by the creation of “whole loan programmes”, which allow large investors to purchase entire loans, instead of pieces of loans that appeal to individual investors with more limited budgets. “If there was a pivot point for the growth of this industry, it was the establishment of the whole loan programmes,” says Ron Suber, a former Wells Fargo executive who heads institutional sales at Prosper. “To securitise, you need

Credit revolution?
Institutional investors become bigger participants in P2P process
The loan is originated by a banking partner and disbursed to the corresponding borrower who then sells it to the P2P lending platform Investors buy notes from P2P lending platforms

Peer-to-peer lending surges ...
Cumulative originations ($bn) 2.5

P2P lenders lenders
1 1 3 4 4
The P2P lending platform pays principal and interest on the notes

2.0

Lending Club cumulative originations Prosper cumulative originations

1.5

2

1.0

0.5

0

The borrower makes monthly repayments including interest

2006

09

11

13

Reta Retail investors investors

... with credit quality also improving
Prosper originations, loan vintage (% of value originated) 100 Subprime Near prime Prime

Big institutional investors can distribute their P2P notes to additional large investors either through securitisation or a secondary market

Borro orrower rs Borrowers

80

Institut stitutiona al Institutional investors investors

e More institutional institut nstitutiona al investors i nvestors
5

60

40

20

0 2006 09 11 13
FT graphic

Source: Keefe, Bruyette & Woods

leverage from the banks, and the banks will only provide leverage on the whole loan programmes.” Eaglewood’s deal came in two tranches, or slices. A senior tranche, worth $40m, was sold to an unnamed insurance company unable to buy P2P loans directly. The $13m junior tranche was kept by Eaglewood. “Some people might say it’s ironic [to securitise P2P loans], but at the same time, you have to take a step back and think about what a securitisation is,” says Jon Barlow, chief executive of Eaglewood. “It’s simply another vehicle with which to invest in an asset class.” While securitising a portfolio of P2P loans may be unusual, the idea of bundling up personal loans is gaining ground. This year Springleaf, a speciality finance company, sold two

securitisations of unsecured personal loans. “So much securitised product used to be on banks’ balance sheets, but it was gradually moved off. Personal loans are really the next front in a continuous process,” says Jonathan Morris, director at Titan Bank, a community lender based in the small town of Wells, Texas. Titan is one of handful of banks that have partnered with Lending Club to buy P2P loans from the platform. Intriguingly, Titan also uses the website to originate some loans that, it says, would be too costly for the bank itself to fund directly. That suggests the platforms could become a way for banks to originate and distribute their loans more efficiently. For that reason, analysts at Keefe, Bruyette & Woods estimated this year that the

growth of P2P platforms could prove more threatening for investment banks that specialise in securitising and selling loans, than traditional banks that focus just on lending. Executives at Prosper and Lending Club stress they are committed to helping individual retail investors lend to borrowers, despite interest from larger institutional investors. Nevertheless, there are those who feel part of the P2P equation has been lost as the sector grows entwined with traditional financial infrastructure. There are efforts afoot to rebrand P2P as “direct consumer lending”. “The real story is that peer-to-peer is dead,” says one large investor in P2P loans. “Individual investors don’t really have a chance against folks like me.”
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New UK Bitcoin exchange will bar US customers
CURRENCIES

By Stephen Foley in New York

A new Bitcoin exchange, to launch in London today, will bar customers from the US, citing diverging regulatory approaches to the experimental digital currency. Coinfloor, which is being pitched by its founders as a forum for high-frequency trading in Bitcoin, will open initially only to customers in the UK and the rest of Europe. At the same time, the Bitcoin Foundation, which acts as a US trade group for virtual currency businesses and advocates for Bitcoin, intends to set up a non-US headquarters, to reflect the

possibility that the centre of gravity for innovation will shift abroad. Mark Lamb, founder of Coinfloor, said that his company had ambitions to move into the US eventually, but “legally it is not safe to open up to US customers in the beginning”. He added: “Partly because of regulation, we think there is a larger market in the UK and in Europe and then in Asia.” The UK’s Financial Conduct Authority has told Coinfloor that it does not plan to regulate its business, which would offer a means for customers to swap British pounds for Bitcoin, in competition to existing European exchanges Bitstamp and BTC-E.

The UK agency has been monitoring the growth of Bitcoin but has decided it is not widely used and therefore does not at present require formal regulation. An anonymous computer scientist formed Bitcoin in 2009 as an alternative to fiat currencies. Transactions are conducted by means of a peer-to-peer network of computers, outside the traditional banking system, and the number of “coins” in circulation is capped. The value of a Bitcoin has fluctuated wildly as speculators have debated whether it could be widely used as a currency for goods and services. Last week, Fortress Investment Group’s Michael Novogratz became the most senior finance industry fig-

ure to admit to buying Bitcoin, saying that it might become a useful payment mechanism in emerging markets. Coinfloor, which is based in the City of London, has received seed investment from Passion Capital, an angel investment firm led by Stefan Glaenzer, former chairman of online radio pioneer Last.fm. Another backer is Taavet Hinrikus, an early employee at Skype. Passion did not disclose the sum it invested in Coinfloor, but said its average investment is £190m. Bitcoin exchanges operating in the US are required to register with the US Treasury and to implement anti-money laundering checks. Most states also require money transmission

licences, although few have set out policies regarding virtual currencies. Banks have been nervous about working with US exchanges while regulation remains unclear. Several Bitcoin entrepreneurs have received subpoenas from state authorities asking for information about whether Bitcoin can be used for money laundering. Peter Vessenes, founder of Seattle-based CoinLab and chairman of the Bitcoin Foundation, said that innovation could shift out of the US to other jurisdictions. “The way the regulatory dance works in the US, I think you will see more innovation elsewhere,” he said. “It is harder here.”
www.ft.com/currencies