Dan Ciporin
The Lending Club IPO was a watershed moment for marketplace lending. One of the largest U.S. public Internet offerings ever, its success makes crystal clear that peer-to-peer lending is not only here to stay, but is poised to grow enormously.
With this validation, the next question is: What lies ahead for the future of marketplace lending?
In trying to answer this question, we can look to the evolution of the advertising world for clues and insights, as both advertising and finance were built on deeply entrenched business structures that became instantly antiquated with the arrival of the Internet.
Advertising was one of the first industries to be disrupted by the Internet, transformed by data almost 20 years ago. In many ways, lending will follow a similar path — and it is an industry that is more than 100x larger.
Follow The Yellow Brick (Advertising) Road
The disruption we have seen in the advertising world over the last 20 years, which has spawned behemoths like Google and YouTube, among others, has followed three distinct phases, the outlines of which we can see in the marketplace lending world as well, where disruption is only just beginning.
The first is the need for standardization and quantification of key metrics, which drives liquidity. In both advertising and lending marketplaces, you have a two-sided marketplace — advertisers and investors on the one hand, readers and borrowers on the other. Both need a common language to transact with each other.
For ad marketplaces, this is the language of demographics and interests: those who are 18-35 years of age and interested in beer and basketball, for example. On the other hand, for lending marketplaces, the language relates much more to risk evaluation, the language of FICO scores and DTI (debt-to-income) ratios.
In both cases, this language existed before Internet disruption. But it is the utilization of these metrics in digital marketplaces that leads to the formation of massive new businesses, which disintermediates the old ones.
Prosper, for example, was the first marketplace lending company in the United States, but it used an auction model without standardized metrics and risk pricing. It was only when Lending Club introduced standardized risk pricing and metrics that this market took off, and Prosper has now abandoned its old model in place of the one pioneered by Lending Club.
As these ecosystems mature and companies introduce standardization, the need for enabling companies or enablers arises to make sense of the different data sets and needs that come with marketplace connectivity. This marks phase two. In advertising technology, enabling companies consist of data management platforms, fraud verification programs and the like.
In marketplace lending, enabling companies consist of such things as data management and fraud prevention, but also solutions for credit scoring and automated regulatory and compliance tools.
One of the most prominent of such enablers that has emerged is Orchard, a Canaan portfolio company that serves effectively as a demand-side platform (in advertising parlance) for institutional investors on marketplace lending origination platforms.
Since its founding less than two years ago, Orchard went from zero to billions in assets under management, an astounding growth rate that speaks to the potential of enabling companies in this space as they service the entire ecosystem, which itself is growing massively.
Programmatic Is The Name Of The Game
Marketplaces reach maturity at phase three when their processes become automated enough for the service to be deployed via real-time bidding. In advertising, this took the form of the programmatic ad-buying process.
This process in the advertising market is well underway, but is still evolving; while still just under 25 percent of all ad buys, this has grown from zero in just three years. However, this process has barely begun in the marketplace lending sector.
If you look at marketplace lending as comprised of three general (and massive) sectors — consumer, small business and real estate — only consumer has evolved to a “phase two” ecosystem with the rise of many different enablers, and is poised to move into the “phase three” of real-time bidding. In the small-business and real estate sectors, this evolutionary process will take more time.
The ultimate evolution of all three sectors to the automated real-time bidding world will be an earthshaking event for each, and for the industry as a whole.
Much like the world of advertising, the traditional players in the world of lending will find that while the rise of marketplace lenders was the siren call of disruption and disintermediation, the onset of true real-time bidding will be the point at which their very business is threatened.
However, this threat will take many forms and shapes, and frankly will depend on the size of the lending institution and whether it has embraced partnerships or competition with lending platforms.
For example, many smaller and regional banking institutions have embraced partnerships with platforms. This is a powerful and heartening trend.
We recently saw the beginnings of this when Lending Club announced a partnership with a consortium of about 200 community banks that will use the platform to build new portfolios of consumer loans.
Lending Club benefits from a larger pool of investors and borrowers, and small banks are able to take back their share of the consumer-loan market from big banks. Expect other marketplace lenders to soon begin looking for opportunities in this area, as well.
To the extent this trend is embraced by money center banks, as in the recent case of Citibank partnering with Lending Club to satisfy part of its community lending requirement, the fate of money center banks may not yet be that of traditional publishers in the advertising world.
But make no mistake — just as Don Draper no longer exists, nor does Gordon Gekko, the world of traditional banking and lending is about to be massively changed.
Even powerhouse Goldman Sachs has made a move to offer consumer loans online, something that would never have been entertained 10 years ago.
The ongoing evolution and disruption caused by the initial rise of marketplace lending platforms has just begun, and the earthquake it represents for traditional financial institutions has yet to fully occur.
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