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Historically, individuals and businesses seeking loans or equity capital had little choice but to deal with banks and other established financial institutions, unless they were lucky enough to find a family member or other source willing to help them. Investors who wanted their money to work harder were usually forced to do business with broker-dealers and investment banks that took a sizeable cut for their efforts.
Under the circumstances, it is no surprise why so many have been attracted by what alternative finance has to offer.
Indeed, the industry has expanded dramatically in recent years. Annual transaction volumes in Europe and the Americas, for instance, grew at high-double-digit percentage rates during the 2013-2015 period, according to the Cambridge Center for Alternative Finance at the University of Cambridge Judge Business School. In the Asia-Pacific region, activity increased nearly three-fold over that span, admittedly from a lower base.
The growth in alternative finance, which includes alternative lending, crowdfunding and other financing models, has been fueled by several developments. These include major advances in technology and electronic communications, structural changes in banking and finance, and demand for products and services that better meet the needs of investors, businesses, lenders and borrowers, especially those of more modest means.
As in retailing, publishing, and the transportation industries, innovative technologies and the Internet have played a major role in disrupting the financial sector. Among other things, it is no longer necessary to have a physical presence to connect those who have funds to lend or invest with those who are looking to borrow or grow. Instead, both sides can now do business together through an online marketplace.
In recent years, these virtual venues have helped to facilitate all sorts of fast and flexible alternative financing arrangements. They have also expanded the size of the overall lending and borrowing pool, which creates greater efficiencies and makes it more likely that all sides will achieve their financial objectives.
Using approaches largely unheard of in the old bricks-and-mortar era dominated by traditional banks and brokers, these platforms account for a growing share of investing and lending activity. After years of being forced to pay high prices to the traditional middlemen, many of those who previously had little choice but to use such “services” have been looking elsewhere. For those who have long been ignored or ill served, the alternative finance industry represents a genuine breakthrough.
Major policy changes in the wake of the 2008 global financial crisis have also played a role in the rapid growth of the alternative-financing arena. More stringent regulatory and capital requirements have spurred banks and other old-line intermediaries to be overly cautious about taking certain risks, including lending to individuals and smaller enterprises, regardless of how attractive their prospects appear at first – or even second – glance.
Worse still, because the established financial institutions are effectively penalized for holding certain types of assets, including loans to near-prime borrowers, they have decided to favor activities they consider “ultra-safe.” Instead of working with individuals, entrepreneurs and others that have long powered economic growth in the U.S. and elsewhere, they are focusing on governments and triple-A corporate borrowers.
And yet, once those who were being badly underserved realized that their needs could be better met through disintermediation – by avoiding banks and other traditional operators altogether in favor of online marketplaces that enable them to do business more-or-less directly – they have quickly become fans. This enthusiasm has been the catalyst driving all sorts of one-to-one and one-to-many financial innovations.
Along with the fast-growing peer-to-peer (P2P) consumer lending platforms offered by Bondora and others, there are a host of other innovative products and services that have become mainstays of the modern financial landscape. These include alternative lending models such as such as P2P business lending and invoice trading, which were virtually nonexistent only a few years ago. There are also a growing array of alternative funding approaches, including equity, reward, charity and real estate crowdfunding models.
Other innovative instruments and methods have also emerged outside of the mainstream financial system. From third-party payment platforms that enable people to send and receive funds faster and easier than through wires and other traditional mechanisms, to cryptocurrencies such as Bitcoin, an electronic medium of exchange that many believe is at the forefront of a revolution, there are suddenly a lot more options available to improve our financial lives.
Ironically, the rapid growth of the alternative finance industry has attracted considerable attention from the institutions that played a big role in stimulating demand for the newer, more user-friendly approaches. Pension funds and other sophisticated investors, as well as banks, are scrambling to take part, either by supplying resources and know-how to those who are doing business through these platforms, or by acquiring firms that have proved adept at operating in this space.
Undoubtedly, many of those who are involved in one way or another, including banking and securities regulators, are keen to understand the threats the industry faces, and they remain attuned to developments that could undermine the viability of newer models. As with the more traditional financial operators, there are concerns about the potential for fraud, malpractice, and cybersecurity breaches, especially in an age where reports about hackers are regularly making headlines.
Interestingly enough, such threats may actually be benefitting the alternative financing industry, which appears to have a stronger focus on ensuring the structural integrity and resiliency of their businesses and platforms than the traditional players. Many banks and brokers appear to have antiquated technologies and a less-than-adequate understanding about certain risk exposures.
As with any industry in its infancy, alternative finance will likely experience growing pains along the way. But given the momentum and popularity, especially among those who were not well served by what was once the only game in town, that has been seen so far, there seems little doubt that firms such as Bondora represent the future of the finance.
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