“Apply in one minute, review in one minute, and get your money within two minutes,” This advertisement by a Chinese peer-to-peer lending platform highlights just how quick and easy it is to borrow money online. But this is unlikely to last any longer.
China’s booming fintech industry, once seen as a golden investment opportunity, is being challenged amid a massive wave of defaults by peer-to-peer lending platforms in recent months. Since June, more than 200 online microlending sites have shut down, and many of the founders have gone missing.
The P2P scandal reached its zenith on August 6 when thousands of petitioners, all claiming to have suffered losses from the closure of online lending sites, gathered around the China Banking Regulatory Commission in Beijing to urge the government to take action and recover their money. A huge policing operation kept the protests in check.
Inevitably, the scandal has hit shares of public-listed online lending platforms. US-listed Yirendai and PPDai have lost 65% and 41% of their market value respectively so far this year despite a 3% gain in overall US equities.
Lufax, China’s largest peer-to-peer lending platform, postponed plans for its $5 billion Hong Kong initial public offering, originally scheduled for the first half of the year; the recent industry collapse suggests it is unlikely to revisit the IPO any time soon.
THE OLD PROBLEMS
China’s P2P industry is now shrinking as quickly as it grew between 2014 and 2015, when the number of online microlending platforms grew exponentially to nearly 5,000 from around 600 at the beginning of 2014, according to data from Chinese P2P lending portal Wangdaizhijia.
The P2P boom came on the back of the furious growth of internet finance in China, and led to the rise of online lending sites that connects lenders with borrowers who cannot access bank loans. They include rural residents, people with poor credit, and borrowers who need only a small sum of money.
However, the constructive growth of the P2P industry – once known as a disrupting force against conventional banking – began to falter when many online platforms went against the law by turning into crowdfunding sites.
No longer satisfied with the small service charge they earn as an intermediary between lenders and borrowers, many P2P sites became lenders themselves by raising capital from the public.
This became the root of a series of problems including money laundering and frauds, where scammers raised capital from newly-established P2P platforms and then disappeared.
In order to tackle these problems, China’s banking regulator published a set of guidelines regulating internet-based financial intermediaries in August 2016, which effectively edged out a large group of underqualified P2P lenders.
Industry sources estimate there were about 2,000 P2P lenders as of the end of June, implying the number has reduced drastically, falling by 60% in just two and a half years.
COMPETITION ON COST
Despite the sharp decline, China’s P2P lending landscape is still overcrowded and cut-throat competition remains the biggest drawback to a healthy development of the market.
P2P lenders’ extremely thin profit margins mean they are unable to compete on price – they cannot reduce their finance charge any lower since it barely covers their costs. Chinese online lenders charge as low little 0.2% of the loan amount and seldom charge over 2%.
As a result, some platforms have started to cut operational costs in order to compete more effectively. They saved cost by reducing expenditure on risk assessment procedures such as profiling customers, verifying documents, checking credit histories, and validating loan purposes.
However, know your customer (KYC) is undoubtedly the most important procedure for a lending business. It is even more important for online platforms since it is harder for them to verify these details without meeting the borrower in person.
It is not hard to understand why some Chinese P2P lending platforms ran into trouble when they require only an identity card and an account on popular social media app WeChat for their review process.
For the most part, P2P borrowers are high-risk customers for whom traditional banks and financial institutions find it too costly to provide services. Naturally, P2P lenders should deploy more resources than banks throughout the KYC process in order to effectively mitigate the risk.
FUTURE DEVELOPMENT
As with many other industries, China’s P2P lending sector will need to consolidate to squeeze out weaker players in order to fill the credit gap between big banks and weak borrowers.
“Due to the stricter policies, we believe the P2P and online lending market will continue to consolidate, with illegal and small-scale platforms which lack sufficient credit management systems and know-how will continue to exit the market,” DBS said in a research report in January.
Chinese investment bank CICC estimates the clean-up of underqualified P2P lending platforms will continue for two to three years, during which 90% of the platforms will be eliminated and less than 200 companies will survive.
The People’s Bank of China, the country’s central bank, has ordered P2P lending sites to comply with all relevant regulations by June next year, or their licences will be at risk.
As such, it should come as no surprise there will be another wave of closures in the second half of next year.
