This shouldn’t really have come as a great surprise: whilst MPL boasts how it does things differently and in many cases, better, what it does is hardly new. Lending to consumers and SMEs is as old as the hills; doing it via the internet without a bank acting as a risk taker is what’s new. The debate focused on why the changes have taken place, whether they are better and how the juxtaposition with banking might evolve.
The question of “why” threw out the usual array of observations that banks, in certain areas, don’t do a very good job. Lending is currently not very cost effective and the regulatory headwinds are making it hard or uneconomic. Using financial technology via a lightly-regulated cost-efficient structure is bound to appeal in the current environment.
Whether MPL is doing a better job than the banks stimulated a more heated debate: yes, the performance data looks good but is it really good given the benign economic environment? The answer of course is unknown and for that reason the business model isn’t as flawed as some commentators insist: it might be stressed by a changing interest rate environment but so will most sectors of the credit markets. Higher interest rates, as and when they happen, will affect the whole spectrum of borrowers from retail to sovereign. The only difference is the relative amount of capital in the MPL space that might be re-allocated to other sectors. The worst case scenario for MPL is the combination of a re-pricing of the high yield market combined with a simultaneous increase in retail and SME defaults on MPL platforms. The former will see some institutional money leave MPL for high yield which will likely reprice to the sweet spot currently occupied by MPL; the latter – telegraphed via social networking - could see retail investors flock back to bank deposits.
The discussion of MPL vs. bank quality of service didn’t dwell only on performance: there was an appreciation that for many borrowers, the MPL application process is more convenient, faster and more efficient: no more time-consuming, sometimes repeat visits to a bank during office hours. However, ease of securing a loan via the MPL market may not be matched by ease of re-negotiating it should a borrower have difficulties. Meeting a bank representative to discuss a work-out, perhaps in the context of a wider commercial relationship between the bank and the borrower, is not a process common to MPLs.
The hot topic of the day was how the relationship between MPL and the banks will evolve: the standard discussion of “crush, compete or collaborate” quickly focused on the most likely and indeed logical outcome: collaborate. Those who were more familiar with the historical relationship between banking and securitisation saw much of what MPL does as similar to securitisation: namely a release valve for the banking sector to address any combination of capital, funding or leverage issues. Similar but not the same: banks and securitisation programs take a large portfolio of risks and split it into junior, mezzanine and senior tranches with the most junior surviving tranche absorbing any portfolio losses. MPL splits a large portfolio of risk (the market) into different risk pools but the investors in each pool only take the risk of that pool not the risk of the whole portfolio. The highest quality investment in MPL can and do suffer losses; senior bank and senior securitisation investors generally don’t.
This subtle but important difference was hailed by the Washington observers as the beginners of the return of the true mezzanine investor – able to do fundamental credit analysis on performing but sometimes very risky borrowers. A decade of synthetic securitisation leading up to the financial crisis rather divided the investing world into first loss and senior investors with nothing in between. The all-important question was whether this times it’s different: are the tools, data and algorithms used by MPL better?
The fact that they operate outside of the banking sector is currently an advantage for MPL which can use more data in a more flexible way than banks can. The assumption is that the models used by MPL are better than those used by the banks because they are newer and employ the best of financial technology. Better data, more data plus better models is normally a good combination and was recognised in Washington as being a key advantage for MPL. If this advantage proves itself through the next interest rate cycle then surely, my audiences argued, it will used by the banking sector. How it is used – by subscription or acquisition – was considered a mere detail.
