The Fintech Files: Will P2P Disrupt the Banks?

Peer-to-peer (P2P) lending is a form of direct lending between lenders and borrowers. In a P2P transaction, money can flow from the lenders directly to borrowers through the P2P platform, bypassing the traditional banking channel. As such, it is generally considered a disruptive form of fintech.

Lu.com (陆金所) is one of the world’s largest players in the P2P market. Recently, I sat down with Gregory Gibb, CEO and chairman of Lu.com, in his office in Shanghai to discuss how the industry will evolve.

Larry Cao, CFA: How would you define the P2P business?

Gregory Gibbs: We think of P2P as the end-to-end linkage online between a borrower and an investor, taking out intermediaries. But the truth is that you always need someone who’s going to have credit capability and platform capability to bring people together.

I always joke with bankers: If you want to be the biggest P2P companies in the world, what you do is you take all the data from your credit card company and you split it off on a separate platform. Then you would have data. You know who the borrowers are. A lot of your borrowers have money and can become investors. And you’ve got the whole thing.

By the way, P2P is where we started but it now represents about 10% of our flow.

Is P2P a big enough market for financial institutions to enter?

They differ a lot by location. In the United States, the consumer market’s already been dominated by the banks. Lending Club and the like are eight or nine years into the business but still not very big.

If you go to places like India, Indonesia, or China, where . . . there’s a huge amount of consumer-borrowing need, there’s also a huge amount of retail investing need — and in the case of China, where the banks are 80%–90% non-retail because there are easier places to make money and it’s more socially rewarding to be a corporate banker than a retail banker — the market’s going to be big because the traditional players aren’t going to grab the consumer lending as fast. So the answer differs a lot in terms of scale in different countries.

Sounds like P2P can grow to be quite big in markets like China if it simply captures a slice of the pie.

 The peer-to-peer market in China today is just north of USD$100 billion in loans outstanding. To say that the market will be a trillion US dollars within the next seven to 10 years is not a crazy number.

So why aren’t the banks going into P2P?

There is absolutely nothing stopping a bank from doing this. But why would a bank do P2P?

The funding cost is 1%, 2%, 3% on the deposit side and the credit card APR is 18%. Then they are making 15–16 points in gross margin. And if they went into a peer-to-peer model, they may have to give the investors 5% or 6%. So they’ve lost a couple hundred basis points of profit.

The real problem with financial institutions is that the quarter you decide to move from a balance sheet model to a peer-to-peer model, you are going to lose profitability. Your ROA is going to go down, your ROE is going to go down, right? And until you can actually build a P2P business up big enough to spin off and capture the capital value of a new equity light business model, the CEO who’s leading the bank doesn’t necessarily want to go through the two or three years of pain to explain it to the capital markets. This is where capital markets do not reward start-ups and incumbents the same.

P2P is one area that we actually see a lot of room for fintech start-ups, exactly as you have described, because financial institutions, for one reason or another, are not jumping with both feet. It’s not something at the top of their agenda.

I will tell you a joke, a real story that represents the problem. About a year ago, we were visited by one of the Big Four Australian banks. Probably a team of 12 people showed up, and they were going on a tour through China. They came t0 see us and ask us questions about our business, our platform, our technology here. And then at the end, the purpose of their visit became clear: They said, “By the way, you guys aren’t ever really thinking of coming to Australia?

“We welcome you to visit our beaches and spend money on a tour, but please don’t come as a company.”

And I think this is why start-ups have a chance. The incumbents hope you won’t come and they wait. But while their waiting, start-ups grow stronger . . . when the incumbent decides to finally act, it is often too late.

Do you think once the scale gets there, the banks would be interested?

Some will. Some will build, but many will wait and then try to buy at a premium.

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All posts are the opinion of the author. As such, they should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute or the author’s employer.

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