When the first peer-to-peer lending platforms started, the majority of observers thought that lending money to strangers online can never work. Today the same majority acknowledges the advantages of marketplace lending and welcomes its fast growth. Since this is now commonplace, what’s the next frontier?
Most marketplace lending platforms operate in one country only. Getting a loan or lending to others on platforms like LendingClub works only within the US. The main reason that cross-border lending is not ubiquitous is that money transfers would take too long and would be too expensive.
Imagine someone who lives in Brazil gets funded by lenders from Canada, Spain, Japan and Australia. If everyone sent their local currency to Brazil, the associated transfer and exchange fees would eat up the interest payments of the loan. The economics just wouldn’t work out.
The good news is that with bitcoin we have a technology and payment network at hand that solves exactly this problem. With bitcoin it’s possible to conduct instant global payment transactions at almost zero cost. At the same time bitcoin is completely independent from third parties like banks. Bitcoin is a peer-to-peer digital currency because one person can send money to another person online without the involvement of any service provider.
Therefore bitcoin powered marketplace lenders like Bitbond are not limited to one country but operate globally instead. The democratization of borrowing and lending becomes a reality because everybody who has access to the internet can get a loan or lend for interest – regardless of where they come from and if they have a bank account.
To mitigate bitcoin price fluctuations, most loans on Bitbond and other bitcoin based P2P lending platforms are denominated in US dollars. Therefore bitcoin is primarily used as a payment network to enable exchange rate pegged loans. You can get a more detailed overview on how bitcoin based P2P lending works in this Primer in 8 Steps.
So what are the opportunities of global marketplace lending based on bitcoin?
Credit risk is pro-cyclical. During a recession, defaults on private debt tend to go up. With unchanged nominal interest rates the effective return on a loan portfolio will be lower during a recession. The following chart shows how default rates on private debt went up in the United States during the 2009 economic downturn.
If the investment in a loan portfolio is exposed to one country only, there is a substantial country specific risk component that is difficult to eliminate. This changes if you have access to investable loans in different parts of the world.
An exceptionally severe recession like the 2009 tends to be a global phenomenon. And still, the differences in GDP growth around the world are remarkable. In 2009 most developed economies had negative growth rates while emerging markets were still doing fairly well. Emerging market economies had an average growth rate of 2.3% in 2009. It can be assumed that more the more robust growth rates are also reflected in better repayment rates on private sector debt.
Bitcoin based marketplace lending gives investors frictionless access to investable loans from every country where the platform has its borrowers. On Bitbond, the loan volume by borrowers from emerging market economies already makes up around 20% of total volume.
Investors who build a loan portfolio that is diversified over a broad set of regions will be less exposed to the business cycle of single markets and will earn more predictable and more stable returns.
2. Access to markets with higher interest rates
A second notable aspect about cross-border lending is the access to markets with higher interest rates. Especially in consumer and small business lending, real interest rates differ significantly from one country to another. The following chart shows real lending interest rates (i.e. lending rates adjusted for inflation) for a selection of countries.
While there is no standard “lending rate” per country because terms and credit quality are important influencers of interest rates, the World Bank’s approximation gives a good overview of the relative differences between countries.
Brazil and India, two large and fast growing emerging market economies, have remarkably high real interest rate levels. But also a country like Australia would be worth an examination from an investment standpoint.
To highlight this again, access to investable personal and small business loans in these markets would not be economically feasible via the conventional banking system. In the absence of bitcoin lending, one would literally need to open a bank in each of these countries in order to take advantage of the higher interest rate levels. For bitcoin P2P lending it doesn’t matter though where a borrower resides. Access to distant markets is equally frictionless for every country.
Currently the interest rates on Bitbond are determined by the creditworthiness of the borrower. Country specific interest rate levels are not considered. This one-size-fits-all approach means that in some markets rates could be higher, in some they would need to be lower. When bitcoin based P2P lending evolves further, interest rates that reflect regional levels will most likely be implemented.
3. Lower fees
Since investors are interested in the effective return of an investment, fees need to be taken into account to evaluate the portfolio performance. All major P2P lending platforms work with a bank that conducts payment transaction for them. The bank takes out a significant cut of the platform’s origination fee. This makes the platform’s service more expensive because the additional cost needs to be covered by the fees that are charged to customers.
Since bitcoin can be used independently of third parties, there is no need to have a bank as a partner for bitcoin lending platforms. Therefore the platform’s investments into infrastructure are much smaller than those of the established players. This is reflected in the fee structures. Bitcoin based P2P lending platforms pass the cost advantage that they have to their customers.
|Loan originator||Borrower fees||Lender fees
|Lending Club||1.1-5.0% depending on credit grade||1% on all amounts borrower pays|
|Prosper||0.5-4.5% depending on credit grade||1% annual service fee|
|Funding Circle||2-5% depending on loan term||1% annual servicing fee|
|Bitbond||1-3% depending on loan term||0%|
Approximately one percentage point in annual return gets “lost” through fees on established P2P lending platforms. This is a substantial share of the total potential return to lenders. Since bitcoin lending operates based on a significantly more cost effective infrastructure, lenders can make a better return just by getting rid of fees.
It’s still early days for bitcoin powered marketplace lending. Loan volumes are just beginning to pick up and the ecosystem is still young. The situation is comparable to where P2P lending was in 2008. However, as we have seen, the opportunities from cross-border lending are enormous and the existing bitcoin P2P lenders are here to capture them.
At the same time new challenges arise from cross-border lending. How can credit scoring be conducted in such a universal way that it’s comparable from one country to another. Customer acquisition and debt collection tend to be region-specific. Bitcoin based marketplace lenders need to find good solutions for these new challenges.
However, the opportunity to diversify your loan portfolio globally, to get access to regions with high interest rates and to earn better effective returns due to lower fees is worth solving new challenges that arise in bitcoin powered marketplace lending.
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