"Neither borrower nor lender be."
Readers of Shakespeare’s Hamlet will remember this famous advice from Polonius to his son, warning him of the pitfalls of lending money directly to friends.
One wonders, then, what Polonius would have made of today’s financial markets, where we are seeing an explosion of platforms and services facilitating exactly what he warns against.
I am referring to the rise of Crowd Capital Raising (CCR), which involves the direct connection of sellers of capital or equity to borrowers or investors via online platforms.
At UBS Group Innovation, we think CCR is one of the more important trends in financial services today and have decided to take a closer look at it. The result is a new white paper which we believe to be one of the most comprehensive analyses of the subject to date (see box).
There is little doubt that CCR is on the rise. We estimate the market is currently worth some 400 billion US dollars, and project this to grow to one trillion by 2020. CCR is also becoming much more sophisticated, with an explosion of new models and use cases serving ever-broader types of clients and markets.
This growth is being driven by three mega-trends:
- Technology. Advances in technologies like artificial intelligence and big data are making it easier and cheaper to automate key services like credit scoring or borrower due diligence on a large scale. Technology is also lowering barriers for entry for new providers with the skills to develop such systems, while making it easier for them to deliver their services directly to end consumers.
- Markets. Since the financial crisis banks have been doing less lending, particularly to smaller and mid-sized businesses, forcing them to find alternative sources of capital. The post-crisis low-interest rate environment is at the same time forcing investors to look for new sources of return. This is driving demand for CCR on both fronts.
- Society. Consumers increasingly favor digital over traditional service offerings, creating opportunities for providers who can deliver a better user experience. Crucially for CCR, people are increasingly willing to trust digital platforms with their money, potentially paving the way for mass-market adoption.
The new CCR platforms certainly offer their users many advantages. These include lower costs, a wider range of investments for broader groups of investors, access to capital markets for hitherto under-served borrowers, and a generally better user experience than what banks can offer today.
But as we found in our analysis, CCR platforms face challenges as well. Having generally arisen since the financial crisis, they have no track record through a complete credit cycle. They can also be magnets for less creditworthy borrowers shunned by traditional lenders. As regulators are only now turning their full attention to CCR, users face a degree of regulatory risk. Depending on the model, investors may find a lack of secondary markets and hence face liquidity risk as well.
That said, there is no doubt that CCR platforms represent a significant challenge for incumbent banks, who will find themselves forced to either compete directly or – as we are already seeing – partner with new entrants.
While we can expect bumps along the road, we believe the CCR market will grow substantially over time.
It will continue to interest sophisticated investors while increasingly attracting mass market investors as platforms become more commonplace and regulation aids understanding and security.
CCR will expand geographically too, particularly in emerging markets. New models are likely to evolve, for example direct markets for initial public offerings (IPOs), consumer credit or mortgages. These new models will benefit from continued technological advancement, creating a virtuous circle for ever-more powerful offerings.
Polonius likely would not have approved, but in our opinion, CCR is here to stay.
Anthony Clark-Jones is UBS Group Innovation Partnerships’ Manager
UBS Future of Finance Forum – Crowd Capital Raising
On December 15, 2016, UBS held the ‘Future of Finance’ Forum on Crowd Capital Raising in its offices in New York. Over 50 leaders and experts from banking, academia, government and technology came together to hear presentations and also participate in workshops to discuss the current and possible future of this important new development.