Is there a company aiming to upend banking, the way Uber has displaced taxis?
Taxis in Budapest. Photo: Elkes Andor. Source: Wikipedia
Fifteen years ago online retail seemed pretty risky. Who would give their credit card to a web merchant? Now Amazon sells more than Macy’s, Sear’s, and Kohl’s combined. Their revenues have grown more than 20% per year for the past several years. And while many retailers have had their customers’ credit cards hacked, Amazon has been more secure even as it has disrupted the retail industry. Could something similar happen to banking? That’s the question asked by recent Wall Street Journal article.
Banking is about getting money from people who have it to people who need it. Deposits are insured—that’s why people don’t worry about them; it’s also why banking needs to be regulated, and why it’s so expensive. Compliance with the Fair Lending Act, Community Reinvestment Act, CFPB, OCC, FDIC, and Federal Reserve is costly. There are a lot of regulations to follow and reports to run.
So app-based peer-to-peer lenders have started to pop up, like Prosper or Lending Tree or Social Finance. This is no great surprise. The economy has been growing for seven years now—it’s one of the longest economic expansions since World War II. While the Federal Reserve has lowered rates, banks still need to cover a lot of their fixed costs, so loans are still expensive. By cutting out the banks, peer-to-peer lenders can loan more cheaply and offer investors higher interest.
Lending Tree Stock Price. Source: Bloomberg
But many of these app banks make money by securitizing their loans and selling them, just like an investment bank. When the economy turns south, many those loans will go bad. People can’t pay their debts when they don’t have jobs. And securities backed by these loans will go south, too.
App-based lending will expand, for now, because your smartphone is their branch. All they need to grow is to add more servers. But there’s no free lunch. What low costs can give, low costs can take away. If banking gets uber-ized, there’s no need to pay a lender—or an app developer—much of anything at all.
Douglas R. Tengdin, CFA
Chief Investment Officer