Regulation evolution: Exclusive with Hogan Lovells’ James Black
Hogan Lovells partner James Black talks to Marc Shoffman about how the peer-to-peer lending sector has matured since Zopa’s launch…
Global law firm and consultancy Hogan Lovells has been involved with the peer-to-peer lending sector since its early days. The firm advised the world’s first P2P lender, Zopa, on its launch.
James Black (pictured), now a partner at Hogan Lovells, was just a trainee lawyer at the time. More than 18 years later, he advises clients across the fintech industry from start-ups to established players.
He advises on the implications of regulatory requirements such as product design, implementation of new legislation, commercial deals like co-branding or outsourcing arrangements and transfers of portfolios or businesses.
Black explains how the P2P lending sector has changed, the impact of regulation and the opportunities that still exist.
Marc Shoffman (MS): What is Hogan Lovells’ involvement in the peer-to-peer lending sector?
James Black (JB): We do a lot in fintech generally including a fintech mentor programme that is an incubator for startups. We have had quite a few clients come through there and go onto bigger, better things. The scheme has invested more than a million pounds in supporting more than 30 fintechs, providing each one with up to £25,000 in free legal and regulatory consulting services. Previous participants include credit platform Pillar and overdraft replacement app Updraft.
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We were doing fintech before fintech existed. Our clients have always operated at the intersection of finance and technology. P2P lending is a good example of that. We actually helped to set up Zopa. Hogan Lovells was involved even before they were called Zopa. The team had a product, they came to us with an idea and we helped the founders to get set up to design a product that would work within, or at the time outside, the constraints of regulation.
That Zopa model for P2P with the micro loan structure was one I worked on as a newly qualified lawyer. We have also been heavily involved with the Innovate Finance P2P group.
MS: How has P2P lending evolved?
JB: It has changed enormously. When I was first involved in 2005, P2P was new, exciting and different. The evolution hasn’t necessarily been linear, it has broadened out into so many different types. You have got P2P for auto loans, for home finance, for business, retail, and so many different models, from Zopa-style micro loans to models that look a bit more like collective investment schemes.
MS: Has regulation helped or hindered the P2P lending sector?
JB: The thing that really changed the industry was the introduction of regulation. It was really a lesson in being careful what you wish for. That is partly because what the regulations didn’t do was to allow for all these different models.
The rules set out a fairly rigid definition of what P2P lending is and that became a bit of a problem as some models looked more like collective investment schemes. As long as you were within the definition of 36H loans, that meant you were automatically excluded from the definition of collective investment schemes.
That’s great if you were on the right side of the definition. But it made some models difficult to get through. The FCA took the view that if you are not in the definition then you are probably a collective investment and that was already a regulated activity. That caused a few issues and slowed down platforms getting authorised.
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The other thing that has caused problems is the general interest rate environment. With very low interest rates, that has impacted the returns that the platforms can offer investors. If you have banks offering to lend you money at 1.5 per cent but a P2P platform can only arrange loans at three per cent as they need to create returns for investors, that reduces demand.
As the economy took a bit of a turn for the worse, we then saw signs that the level of impaired credit in the market was increasing and that was making it harder for investors to feel confident of making a profit from their investments. All those things lead to a number of exits from the market or radical changes from business models. So Zopa is now a bank, whereas the whole point of P2P was to create something that competed.
MS: What is your outlook for P2P lending sector?
JB: As interest rates go up now, it will be interesting to see if that creates a resurgence of interest in P2P as banks tend to be historically slow to pass on increases in rates to savers. If as a lender you can get more from investing in P2P than putting it into a savings account, then maybe it will bring people back.
One thing that concerned investors was liquidity, platforms need that churn of new investors coming in, that’s another reason platforms have moved to other forms and there has been this shift from retail to institutional. The FCA probably feels the industry is under control, and in a good place from a regulatory supervision perspective, but it is at the cost of having a vibrant and buoyant sector. It is now a concentrated sector with a narrower range of products in the market.
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The sector is now better from a consumer protection and market integrity perspective. It feels a bit like the FCA is throwing out the baby with the bathwater though and it has perhaps fatally undermined the retail P2P lending model.
MS: Could someone set up a retail focused lender nowadays?
JB: I would never say never, the fact that no one seems to be doing that suggests the appetite for risk is not quite there. There is still a place for P2P lending but the challenge is generating a product that produces a sufficient rate of return and a business model that has sufficient liquidity to meet all those things investors want.
MS: What are the main challenges and opportunities for the P2P lending sector?
JB: There are definitely opportunities. In the economy that we live in there is always a need for funding so there will always be borrowers looking for a good deal and there will always be people looking for a return on cash. The P2P lending concept is still a really good one, it is the execution and regulation that has perhaps kept it down.
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