How neobanks are revolutionizing digital lending
Fintech lending by neobanks – online services without physical branches – in hitherto “unbanked” markets has seen massive adoption over the past year. Digital lending startups raised a record $20.5 billion across 633 deals in 2021, representing a 220% increase in funding year-over-year, according to CB Insights.
Millions of people around the world are excluded from traditional financial services, either due to a lack of credit history in developed markets or a lack of financial infrastructure in less developed markets. Fintech loans are expected to reach an aggregate value of $27.1 billion by 2028, growing at an annual rate of 18.13%, according to Verified Market Research. The proliferation of start-ups in the space demonstrates that this banking segment is booming.
Examples of recent funding include California-based immigrant lending startup Stilt’s $114 million raise in March 2022 and Los-based Welcome Tech’s $30 million raise. Angeles, in April 2022. and San Francisco-based TomoCredit raised $17 million to develop a no-fee credit card focused on building a credit history.
Specific community-focused startups include Kansas-based First Boulevard, which raised $5 million in 2021 and focuses on Black and Latino communities, and California-based Cheese, which raised $3 million for its platform focused on the Asian-American community in the same year.
While many of these neobanks are based in the US, London’s reputation as a fintech capital has seen companies such as Revolut and Pillar establish the city as a digital lending hub. In April 2022, Pillar raised £13m in pre-seed funding for its platform which gives immigrants access to credit when moving to a new country.
The digital lending trend has vast potential for adoption in “underbanked” regions such as Africa, where only 43% of the population has a traditional bank account. This trend seems destined to go global, although China has banned its adoption.
In 2018, Beijing cracked down by suspending licensing for new lenders, according to GlobalData’s 2022 Digital Lending Topic Research. Chinese fintech Ant Group, a dominant force in the country’s consumer lending industry, saw its digital lending offering stalled in 2021 as authorities stressed the need to regulate fintech.
Digital lending solves credit score inequality
Although most other global markets will not adopt China’s draconian approach, the issue of fair and transparent lending decision-making has become the focus of regulators around the world. The Biden administration has proposed a new federally-backed credit bureau mandated to ensure credit scoring is non-discriminatory and includes alternative data, according to GlobalData topical research.
The technology that underpins digital lending directly solves this problem through transparent and uniform algorithmic decision-making, but perhaps more importantly, it provides options for the lack of credit score for the global unbanked population. Advances in data science allow neobanks to calculate lending risk outside the confines of existing credit rating standards.
Los Angeles-based digital lending platform B9 started life as a service for underbanked American immigrants with no credit score. However, according to CEO and Founder Sergio Terentev, once launched, the company discovered wider market potential for its financial product among people with poor credit ratings, and a business pivot made sense. “Currently, 80% of our customers are just hard-working regular Americans in all 50 states,” he says.
B9 is currently focused on the US market and a particular segment of digital lending called “Earned Wage Access” (EWA), which allows individuals to access accrued but not yet paid wages – a disruptor for payday loan companies that have traditionally exploited the poorest in society with exorbitant interest rates, according to Terentev. This anchor feature on B9’s neobank app pales in comparison. Additionally, the company offers a number of bundled products that it offers under an optional paid subscription model.
Most of B9’s competitors were founded in the past two to five years, according to Terentev, who has witnessed the increased adoption of digital lending first-hand. Since its inception in August 2021, B9 has reached 140,000 registered customers of which approximately 20% are paying. The company’s rapid growth demonstrates strong market potential and reflects the general consensus that digital lending is a growth area set to grow exponentially.
The market demand for this particular demographic has always been there, says Terentev, but the technology hasn’t. “Digital lending as an industry is purely technology driven,” he adds. Ideologically, Terentev believes that providing access to cheap capital to a potential market of 100 million Americans who live hand-to-mouth is the most socially responsible approach that will allow many to escape the cycle of debt. Regulators across the United States are welcoming EWA, Terentev says. “Regulators see this as a good thing in terms of consumer rights and although this is a new area, they seem open and helpful in allowing the sector to grow,” he adds.
However, the issue of privacy and data rights still needs to be resolved, says Terentev. According to topical research from GlobalData, some digital lenders have violated implied privacy laws by harvesting data from phones, with reports even pressuring debtors by calling friends and family to embarrass them.
Regulatory clarity is key
The breadth of services and options for the previously “unbanked” is welcomed by many, but the regulatory void in specific digital lending laws is an area that many believe needs to be addressed. Regulatory clarity is key to the continued growth of this emerging financial services trend, says Stephen Walker, principal analyst for thematic and fintech research at GlobalData.
In 2020, South Korea became the first country in the world to establish laws dedicated solely to digital lending, providing credibility and validation to digital lenders. While regulatory clarity helps the industry grow, it has shown in South Korea that only the strongest digital lenders survive regulatory scrutiny, weeding out those unable to meet new standards, says Walker.
In the absence of regulation, many digital lenders apply for banking licenses. For example, UK-based digital lender Zopa obtained a banking license in June 2020, and US-based digital lender SoFi applied for one in July of the same year. “Banking licenses reduce origination and funding costs and can also allow the technology that underpins digital lending to be applied to an institution’s more mainstream offerings,” Walker says.
Some lenders have even bought into banks in order to add credibility to their digital lending services. In January 2020, San Francisco-based LendingClub received approval for its acquisition of Radius Bank, making it the first fintech lender to buy a digital bank. By purchasing Radius Bank, LendingClub has expanded its products and services.
As with all emerging market segments, regulatory and adoption protocols are still ongoing, but this emerging global trend for digital lending platforms is already disrupting traditional financial services with its central mission to democratize money for people. financially disenfranchised people.