P2P insurance: From here to indemnity
Could new insurance products help shore up P2P lending as we head into a recession? Hannah Gannage-Stewart reports
Peer-to-peer lending platforms are experts in profiling risk, but as we hurtle towards recession it is possible that, even with the best due diligence processes in place, the number of defaults will rise.
As a result, insurers working in the P2P finance sector are assessing the viability of new insurance products that could take some of the heat out of the looming downturn.
Personal guarantee insurance and credit insurance are already used to a limited degree by lenders but, in the main, P2P firms say they rely on careful portfolio management and due diligence, alongside professional indemnity and professional negligence insurance.
However, in July, Purbeck Personal Guarantee Insurance reported a 125 per cent year-on-year increase in personal guarantee-backed finance agreements during the second quarter of the year.
Clearly more borrowers are putting their personal assets on the line. As loan agreements are increasingly contingent on a degree of personal liability in the case of the business defaulting, is it worth lenders encouraging the use of personal guarantee insurance?
Read more: Personal guarantee-backed loans rise as businesses battle rising costs
Purbeck is currently the UK’s only provider of personal guarantee insurance, which insures the majority of the risk to the business owners or directors’ personal assets in case of a default.
As managing director Todd Davison explains, it can be stressful for directors to sign a personal guarantee. “They’ve set up an incorporated company to effectively benefit from limited personal liability and by having a personal guarantee, it kind of lifts that veil incorporation,” he says.
The latest iteration of the recovery loan scheme encourages accredited lenders to request a personal guarantee, unlike previous versions of the scheme, which will likely increase the appetite for this kind of protection.
Insurance broker Protean Risk works with around 60 to 70 per cent of the P2P and crowdfunding platforms in the UK and has done so for the past seven years. The firm does not currently offer personal guarantee insurance, but it can see an increasing benefit to having a wider range of insurance policies available.
Read more: Record numbers of business owners take out personal guarantee insurance
Richard Austwick, team leader at Protean Risk, said products like personal guarantee insurance for borrowers can offer lenders a useful USP in a volatile market, but he noted that the product has to work from both sides.
From the insurer’s perspective, he said they would be considering: “the performance of their loanbook and if/how platforms are planning for increased default rates in the next 12 months with the economic outlook.”
In other words, if the maths can be worked out as much in the insurer’s favour as the lender’s, why not innovate and create a product that will help defend platforms from increased risk?
“Often negative economic conditions bring an increased level of innovation so this shouldn’t be a reason to stop trying to develop a product,” he adds.
Lenders have had mixed experiences with personal guarantee insurance to date, with some finding that the policies are expensive and onerous to manage.
One P2P lending platform boss, who chose to remain anonymous, told Peer2Peer Finance News: “One of the issues with the product was the need to rely on the business owner/guarantor notifying the insurer of a number of notifiable events as they happened, which are very often overlooked by the guarantors who also in some cases do not want to make the disclosures for fear of notifying the lender that they might be in difficulty.
“We did have some guarantors and business owners that were very diligent in their use of the product and did make notifications to the insurer as per the policy, however they tended to be the lower risk borrowers.”
Roy Warren, managing director at Folk2Folk, said he had recently been pitched credit insurance by one of the larger insurers, suggesting that insurers and brokers recognise an increased need for cover in the market and are looking to develop products with that in mind.
Credit insurance is a niche product, which is designed to cover defaults on large invoices. Overall, it is hard to fit this kind of cover neatly into the P2P lending model, although some commercial property-backed lenders suggest there may be a role for it in mitigating the risk of major suppliers going under and jeopardising large projects backed by P2P lending.
However, as Warren highlights, “the expectation of increased defaults is pushing the premium up straightaway”, so while there may be a hypothetical appetite for increased cover, he echoed Austwick’s observation that it will require a careful balance to come up with a product that is cost-effective enough to make it worth investing in.
Ultimately, Warren said the perennial methods of mitigating risk remain key in any economic context. “The important thing is to keep on top of your underwriting, and careful portfolio management,” he says.
“Make sure that you’re monitoring and controlling the loans as they’re progressing during their life. I’m always a firm believer in keeping ahead of the wave. Look for the problem before it arrives on your doorstep.”
One lender that made good use of credit insurance in the past and proves a use case for the product with P2P lending, is ArchOver. The business has been funding P2P loans since 2014.
ArchOver’s early loans were secured against a business’s balance sheet and used a credit insurance wrapper around the accounts receivable to protect against defaults on that revenue.
“For instance, a business would have £100,000 owed to them by their clients that would have insurance against each of those clients,” explains Charlotte Marsh, managing director at ArchOver. “And then we would provide a loan to value against that accounts receivable value at any one time.”
The platform has withdrawn from this kind of lending now, which it attributed to the government-backed loan schemes absorbing the best opportunities in the small- and medium-sized enterprise lending market.
ArchOver no longer uses credit insurance, but Marsh would not rule it out in future if the business model required it.
“It’s like many other insurances that businesses just don’t think about when they either start up or start to grow or develop,” she says. “It just should fall in with a pack of insurance that you should always consider protecting your business against.
“You insure your stock, you insure other aspects of your business, with cyber attacking and all that kind of stuff, credit insurance is just one part of that pack of insurance that you use dealing with a client you’ve never dealt with before. Why would you not insure against the loss of that if they default against paying your invoice?”
Swings in the economy often inspire change and innovation, whether it’s a pivot, as in the case of ArchOver, or the introduction of new ways to mitigate risk. Therefore, forecasting the likely impact of this downturn will be key to lenders making the right choices when the need for change arises.