Institutional Investment: Eyes on the prize
After a brief drought, institutional investors are circling the peer-to-peer lending sector once more. Kathryn Gaw explores the current institutional landscape…
Spare a thought for the one per cent. After years of economic turmoil, even the wealthiest investors are being forced to tighten their purse strings and revisit their portfolios.
According to a recent report from PwC, asset managers and wealth managers have been undergoing “massive transformation” in response to macroeconomic challenges such as market volatility, rising interest rates and inflation. This has led many to reassess their investment strategies, and adjust their portfolios with a tilt towards alternatives.
And it’s about time too. Ever since the disastrous mini-budget of October 2022, institutional investors have been noticeably absent from the news pages of Peer2Peer Finance News. On 28 September 2022, property lender CapitalRise agreed a new funding line with investment manager Downing for an undisclosed amount. The P2P sector would not see another institutional funding announcement until April 2023, when CrowdProperty inked two deals with British Business Investments and an unnamed UK bank, in quick succession.
“It has become increasingly more difficult to attract institutional funding, especially since the mini-budget of last year, increased even more by the uncertainty and rising rates,” said Paul Auger, chief operating officer at Kuflink.
Auger’s views have been echoed across the sector.
“In the current interest rate environment I would expect institutions to be pulling back,” says Lee Birkett, chief executive and founder of JustUs.
“Higher rates bring higher risks from a borrower serviceability perspective, requiring additional pledges of security from the borrowers.”
Meanwhile, in its recent annual report, Folk2Folk – the UK’s largest P2P lending platform – said that “institutional funding continued to be a challenge in 2022”, causing the platform to revise its three-year growth plan.
The UK’s P2P sector has historically swayed between institutional and retail funding, depending on the investor appetite. This flexibility has been key to the sector’s success, allowing platforms to benefit from both large-scale institutional funds, and stickier retail money. But since December 2019, there has been a marked shift towards institutional money as retail investing has come under increasing scrutiny by the regulator.
For the past three-and-a-half years, platforms have been required to work within increasingly strict parameters when dealing with retail investors. Visible risk warnings must now appear on all P2P lender websites, and all new investors must pass an appropriateness test before being allowed to access P2P loan opportunities. Restrictions on marketing materials mean that P2P brands have all but disappeared from the mainstream.
As a result, some of the largest P2P platforms have opted to leave the retail market altogether in favour of institutional funds. ThinCats and Landbay were among the first to exit retail P2P for institutional money in December 2019. Zopa confirmed in December 2021 that it was leaving the P2P space to focus on its digital bank, and Funding Circle closed its retail lending business in March 2022, citing “proposed regulatory changes and broader market dynamics.” By the end of 2022, Assetz Capital had also left the retail space to focus entirely on institutional investment.
Together, ThinCats, Landbay, Zopa, Funding Circle, and Assetz Capital had accumulated more than £10bn in retail funds before leaving the sector. While many retail P2P investors have been able to simply move their money into other platforms, institutional investors have arguably been the big winners of the recent regulatory crackdown. It is these big investors who can now benefit from the long track record and inflation-beating returns of one-time P2P lending giants.
These institutions range from asset managers, to state-backed banks, pension funds, high street banks, and family offices. Each entity has its own list of requirements which must be met before any funds are handed over.
“Family offices are always on the lookout for alternative products with good returns and well managed risk so we’re growing rapidly in that space, while continuing to grow the retail platform,” says Jatin Ondhia, chief executive and co-founder of property lender Shojin.
“We have seen no change in appetite from institutions recently, although we deal mostly with family offices in the institutional space, not much with institutions like private equity.”
Having said this, Shojin is currently in talks with several private equity firms about raising a new fund for junior lending, in an expansion of its existing institutional investor reach. However, the platform still maintains a 70/30 investor split in favour of retail.
P2P lenders such as Shojin could benefit from the ongoing economic uncertainty which is driving institutions to broaden their horizons and seek out new opportunities in the alternatives space.
Read more: Credit where it’s due: Exclusive interview with Fasanara’s Daniele Guerini
Peer2Peer Finance News is aware of at least two more institutional funding deals worth tens of millions of pounds which are in the works at the moment. However, while institutional money has the power to transform a platform’s balance sheet overnight, it is hard earned. One of the aforementioned deals has been pending for eight months so far, with no end in sight.
In the meantime, platforms are being careful to maintain their retail investor base alongside their institutional aspirations. While it has become harder to market to retail investors, they are considered to be much more loyal. What’s more, they are investing ever-increasing amounts of money. A recent investor survey by Peer2Peer Finance News found that 45.2 per cent identified as high net worth (HNW), while 64.5 per cent of those surveyed said that they had more than £50,000 invested in their P2P portfolio. Courting these HNW retail investors has become more of a focus for some platforms, representing a sort of middle ground between restricted retail and institutional money.
JustUs recently increased its minimum investment threshold from £100 to £10,000 in an effort to attract more HNWs, and Birkett has been adamant that he will not go down the institutional route.
Read more: P2P platforms raise minimum investment thresholds
“Institutions are predominantly matrix-driven without any personal involvement and are short term focussed – the opposite of long-term, loyal P2P investors,” he says.
Filip Karadaghi, managing director of LandlordInvest, is also holding off on institutional funding in favour of the flexibility of retail investors.
“We only have private individuals as lenders and are satisfied with that,” says Karadaghi. “We’d engage institutions should we feel that we would benefit from such co-operation.”
And Kuflink’s loan book continues to be 100 per cent funded by retail investors, with any institutional funding done via a separate funding agreement.
Meanwhile, Shojin’s Ondhia says that he is keen to make the retail platform work because “that is the huge opportunity in fintech.”
“A lot of firms end up moving away from retail and into the institutional space because it’s easier, which is fine from a business perspective,” he adds.
“But then they are the same as hundreds of other firms and are not really changing anything in the world.
“We want to stay heavily focussed on retail.”
P2P lending platforms have a long track record with good returns and low defaults, and as private debt specialists they are not closely correlated with the main stock market movements. This makes them particularly attractive to institutional investors who are eyeing up the alternatives sector.
According to Ondhia, institutions are looking for good deal flow, solid risk management, and superior risk-adjusted returns from alternative lenders, all of which P2P platforms can provide. It is therefore not surprising to see more and more institutions orbiting the sector in search of opportunity.
Mike Carter, head of platform lending at Innovate Finance, believes that CrowdProperty’s recent institutional investments show that “a healthy funding market is out there for good names, and also illustrates a P2P platform that is ensuring it has diversified funding sources, which is key for any alternative lender.”
“There is demand out there from the institutional market for P2P lenders,” he adds.
The demand is certainly there, but the seasonal nature of institutional funding acts as a reminder for platforms to diversify their funding streams.
The institutional plus retail equation has helped the industry to keep growing during times of economic stability and chaos. But while institutional interest is now returning to the P2P sector, this is no guarantee of future funding. Make hay while the sun shines, but remember, there is no P2P without retail investment.
