By Gareth Vaughan
The regulation overseeing New Zealand's peer-to-peer (P2P) lenders is too light, and some operators here are facilitating loans to people who wouldn't get a loan from a bank putting the NZ industry at risk, says the ex-pat Kiwi running an Australian P2P lender.
Daniel Foggo, a New Zealander who is CEO of RateSetter Australia, told interest.co.nz his company had held back from entering the NZ market despite looking at launching here since early 2014. P2P lenders are online service providers that act as intermediaries matching borrowers and lenders.
"We have a strong interest because a number of our senior team are New Zealanders and because we know New Zealand consumers have been starved of alternatives to bank offerings. However we’ve held off this expansion as we feel the local industry is at risk due to a regulatory approach that is too light touch, and because of the approach to growth taken by some of the early market entrants," Foggo said.
"So whilst expansion into New Zealand is something we really want to progress, we’ll probably need to watch for a little longer to see how the regulatory environment and the behaviour of the key operators develop. "
'Relatively light touch'
Foggo said RateSetter had not applied to the Financial Markets Authority (FMA) for a P2P lending licence.
He describes NZ's approach to regulating the fledgling P2P sector as "relatively light touch," especially in terms of the thresholds required to gain a licence, the level of disclosures that must be made to investors and the on‐going regulatory oversight of P2P operators.
"This is evident simply by looking at some of the retail investor protections that are missing from New Zealand versus Australia," he said.
Foggo pointed out that in NZ compared to Australia;
‒ There’s no requirement to provide investors with a comprehensive offer document, explaining how the platform works and what the investment risks are (RateSetter's is here);
‒ There’s no formal compliance plan or formal external compliance committee an operator must comply with;
‒ There are no continuous disclosure obligations, to either the regulator nor investors;
‒ There are no specific obligations to treat investors equally nor for effectively dealing with conflicts of interest, which Foggo argues are especially important when an operator is mixing retail investors with wholesale and/or institutional investors;
‒ There are no requirements to use a third party custodian to reduce the risks associated with funds transfers. And;
‒ There is no requirement to hold operating capital proportional to an operator’s loan book.
'The FMA is happy for consumers to lose money'
On top of all this Foggo is critical of the FMA's attitude. Noting comments CEO Rob Everett made in a recent video interview with interest.co.nz. Everett said the regulations underpinning the P2P sector shouldn't be reviewed until after the industry has been through a downturn.
"What’s most concerning is the FMA’s expressed view that they don’t see a need to look at regulatory changes until there is a downturn. This is essentially a statement to consumers that they (the FMA) are happy for them to lose money in this space, and a statement to operators that they aren’t really aligned in supporting the longer term prospects of the industry," Foggo said.
As reported here last month, a major international study of alternative online financing in the Asia-Pacific shows NZ with the fourth highest volume of funding, and the second largest volume on a per capita basis. NZ scored the highest alternative finance volume on a per capita basis outside of China with US$59.37 per capita, followed by Australia (US$14.83), Singapore (US$7.27), Japan (US$2.83) and Hong Kong (US$1.28). China’s alternative finance market volume per capita was put at US$74.54 in 2015.
China is the world’s biggest online alternative finance market by transaction volume, registering US$101.7 billion (or RMB 638.79 billion) in 2015. This accounts for nearly 99% of the total volume in the Asia-Pacific region. Of the rest of the region, New Zealand trailed only Japan and Australia by volume at US$267.77 million of funding during 2015.
To date the NZ market by volume has been dominated by Harmoney, the first licensed P2P lender to launch in NZ. Since its September 2014 launch, Harmoney has facilitated more than $220 million of lending with about 75% of its lenders'/investors' funds coming from institutional investors.
Since Harmoney's launch three further P2P lenders have been licenced by the FMA and launched towards the end of 2015. They are Squirrel Money, LendMe and Lending Crowd.
Foggo suggested a global consensus on what constitutes the right regulations for P2P lending is emerging, and the FMA would do well to replicate some of these.
"In the UK (RateSetter's ultimate home) we’ve seen the FCA (Financial Conduct Authority) design regulations from the bottom‐up and in a very well thought‐out way. We’ve also seen the European Banking Authority recommend similar policies as it seeks to harmonise the regulatory approach across Europe. And maybe unsurprisingly the regulations in Australia, at least if an operator wants to accept funds from retail investors, are very similar to those in the UK and those recommended by the European Banking Authority," Foggo said.
Harmoney's P2P model is closer to that of US giant Lending Club than the British style advocated by Foggo.
"When thinking about regulating a new industry, it’s important to strike the right balance between supporting innovation and protecting consumers. I think a more even balance has been struck in the examples above (than NZ), so I would leverage the time and effort already undertaken by overseas regulators, and broadly replicate those regulations and investor protections," Foggo added.
"We’ve already talked to the FMA about what regulations we’d like to see in place before we make the investment to expand into New Zealand," added Foggo.
Licensed P2P lending in NZ was enabled by the passing of the Financial Markets Conduct Act, which then-Commerce Minister Craig Foss hailed in 2014 as "once-in-a-generation" reform that makes up an integral part of the Government’s Business Growth Agenda "to restore confidence in our financial markets."
FMA says its role is to ensure P2P regime operates as intended by Parliament, says institutional investors can't obtain advantages over retail investors
Unsurprisingly, the FMA says it is actually not happy for consumers to lose money through investments made in loans facilitated through P2P lending platforms.
"The FMA’s role is to ensure the regime operates as it was intended, and within the defined parameters of the legislation established through Parliament. It is incorrect to say the FMA is happy for consumers to lose money," an FMA spokesman said.
Commenting on the obligations for P2P platform providers under the Financial Markets Conduct Act, the FMA spokesman said while a Product Disclosure Statement is not required, there is a requirement for "certain pertinent information" to be made available to investors about the loans themselves. Each platform is also required to publish a disclosure statement that details how the platform operates.
"Each platform is required to have a compliance plan. While the details of that plan are not prescribed, the plan is assessed as part of the licensing process and must be appropriate for the scale and nature of the business," the FMA spokesman said.
"Each platform is required to have a conflicts of interest policy. And investors must be treated fairly. We have been quite clear with platforms that wholesale (or institutional) investors must not be able to obtain any advantage over other investors."
'Significant impact' if a single P2P operator gets in trouble
Foggo said P2P lending can bring significant benefits to a financial system, because "in its purest form" it helps foster a more diverse and more resilient financial system.
"Most notably it diversifies financial resources away from a concentrated core of ‘too big to fail’ institutions, the risks of which are inherently underwritten by taxpayers. It also reduces the reliance of the financial system on wholesale funding, it removes the risks attached to leverage within financial institutions, and it removes the risks attached to the maturity transformation undertaken by the banks," said Foggo.
"I also think that it’s important to remember that the downside risks of investing on a platform are actually very low compared to many financial investments. As a platform operator we are paranoid that a single investor might not get a positive return in a single investment period. Losses might occur on some platforms in a severe downturn, although I think that it’s important to recognise that given the structural nature of P2P lending, these losses should be relatively small, not like the finance company failures of the past, and that if they do occur, its likely in an environment where equities, for example, are down substantially more."
Nonetheless "if a single operator in our region does experience investor losses, the impact on the trust of the industry would be significant," Foggo said.
"I think in this context it is important to raise an important distinction between the industry in New Zealand with the industry globally. Internationally operators have built scale through offering borrowers better interest rates than offered by banks, whereas in New Zealand the focus of some has been to offer finance to those that wouldn’t get approved for a loan from a bank."
"To give this some perspective, to date in Australia RateSetter has funded over 1,900 loans at interest rates typically 4% to 10% lower than offered by the banks, with only four loans in default. While if you look at the statistics for the industry in New Zealand you’ll see some operators have average interest rates that are somewhat higher than the banks, and default rates that are heading some multiples higher," said Foggo.
"This distinction does put the New Zealand industry at risk, and is one of the reasons we have paused our expansion into New Zealand."
RateSetter open to NZ investors
RateSetter Australia is open to NZ retail investors and since it launched in late 2014 Foggo said it had attracted "a couple of dozen." On average they've invested just under $40,000 compared to the $11,000 overall average. Foggo said there were currently no plans to open RateSetter Australia to Kiwi borrowers, but added "never say never."
He said RateSetter Australia has no plans to be "a shop front for traditional finance" and focuses on providing consumers with an alternative to the traditional banking system.
"Consequently we don’t anticipate we will ever have a bank as a shareholder, nor do we expect to be lending bank funds any time soon. Our focus on consumers is evident from the two years we invested to work with the regulator in Australia to become the first to open up P2P lending to retail investors, and why every one of our lenders in Australia is a retail investor," said Foggo.
"From a New Zealand economy perspective, I think there is also an opportunity for genuine retail investor-led P2P lending to ensure finance generates returns that stay in New Zealand, rather than being siphoned off to overseas owned banks or offshore fund managers."
*This article is a combination of two articles that appeared in our email for paying subscribers early on Monday and Tuesday morning, respectively. See here for more details and how to subscribe.