“I had a front-row seat for what the banks were doing in 2008,” says Luke Jooste, with what appears to be a tone of contempt colouring his South African accent. “It was so complex. Nobody really had any idea of what could happen.”
In 2008, as the wheels were beginning to fall off the international banking sector, Jooste had just become associate credit director in the real estate arm of Barclays Corporate. As the recession bit deeper, he was promoted to UK head of real estate finance, and then commercial director of Barclays Finance.
“No one has a better insight into the reluctance of the bigger banks to lend to this smaller market,” he says.
Then in April last year, Jooste left the world of big banking to become head of real estate finance at peer-to-peer lender Funding Circle.
In many respects, this is as far from his former role as could be imagined – since its launch a year ago, the real estate arm of Funding Circle has loaned just £43m. But Jooste does not see it that way. Even though he points out that his seven-strong team had, between them in their previous roles, signed off $2tn (£1.4tn) of loans, he still argues that what he is doing now – lending a maximum of £3m at a time – is more valid, more virtuous and, for him, more rewarding.
“We are not bankrolling a Canary Wharf tower,” he says. “That’s where banks got into trouble before. We are funding three or four houses in Nottingham, an in-fill development in central London, things like that. They are all tangible, workable schemes. They are all necessary, and we are the only way some of these schemes will get built.”
Jooste is part of a modern phenomenon that has had its apogee, if not its genesis, in the restricted lending landscape of austerity-era Britain.
Last year alone, P2P platforms in the UK raised and loaned £1.2bn, more than double the amount prior to 2014. As well as funding from individual investors, most of whom (59%) invested between £1,000 and £20,000, those lending through P2P and crowdfunding include institutions, and even the government.
Funding Circle has been running for five years, and is one of this emerging market’s bigger players. Investors have loaned £540m to 8,000 businesses since its launch in 2010, and the loan book is trebling annually. In the last quarter of 2014 it lent £100m.
As far as Jooste is concerned, this rapid increase is a direct result of the stagnation of the traditional big-bank lending markets. “The banks are reluctant to lend now, except on bigger figures,” he says. “Then you have bridging companies, which will lend to smaller concerns, but on high interest.”
For the SME looking for working capital, or the small-scale developer, the options are limited.
Jooste says P2P fills that gap. “The demand is almost insatiable,” he says. “There is a massive housing gap, which can be only partly closed by the big housebuilders. The rest will need to be built by small-scale developers. And when they need to raise money they cannot rely on the banks.”
Part of the reason for that is the banks’ debt-to-capital ratios, which make them nervous about SME investments and loans. Partly it is the banks’ restrictions that make lending more than £10m easier than lending £100,000. And partly, he adds, people want an alternative to what they see as an impersonal, penny-pinching and potentially punitive banking sector.
When Funding Circle launched its property-specific platform, with Jooste at the helm, last year, it was not inventing a platform in the hope that people would want to use it; it was responding to overwhelming demand. “Over 65% of the lending was actually property finance, either for development or to buy business premises,” says Jooste. “We were definitely led in that direction by the demand for property finance.”
All of the £43m it loaned last year was from retail investors, which invested an average £8,000 across several projects. “Let’s say, for example, we will stage the funding tranches to the requirements of the scheme of three houses. For a £450,000 loan about 8,000 individual investors will go into that,” says Jooste.
It was a bumpy first 12 months in Funding Circle’s life. There were impairments and losses, write-offs and write-downs and bad debts, and the lack of quality data being collected on lenders meant that the screening process was not as strict as it could have been. For every proposition turned down by Funding Circle there was a default.
When the property finance arm was launched it was expected that there would be similar teething problems. As it is highly dependent on the market, Jooste’s team assumed that there would be bigger losses, with the entire platform subject to more systemic risks. “Performance has been better than expected,” says Jooste. Indeed, on the £43m loaned so far there have been no losses, no late payments and no defaults.
“It’s not rocket science,” says Jooste. “If you are funding a developer who has done 10 schemes and you have good control over where the money is going, and you understand the values, it becomes very simple, really.”
And there is clear demand. Lloyds recently announced that its fund for SME housebuilders would be £50m. “We have already gone past that. We are filling a gap,” says Jooste
It can also be very quick. One of the earliest schemes Jooste funded was a development of six houses in Ramsgate, Kent. The total funding needed was close to £1m. “We did the diligence, the first tranche we wanted was £250,000, and it was raised within 20 minutes,” he says.
One loan of £160,000 was taken by just three investors in under six minutes.
Obviously, the type of investors that are willing and able to drop £50,000 or more on a scheme in the time it takes to order a coffee are not the new wave of ordinary people who make up the bulk of crowdfunding and P2P investors. They are far closer to the “angel investors” that have been doing this sort of thing since the Dark Ages. But what Jooste argues is that there is now no way to say who the average investor is. “It is pretty much everyone,” he says. “We have a huge spectrum of lenders and investors. So do our competitors.”
Some of these are soon-to-be pensioners looking for a better return on their retirement savings, with less volatility than stocks. Some are just having a flutter with a spare £50. Some do not even seem to be interested in the returns, they just want to see their investment build something tangible.
One development funded through Funding Circle was an eco-friendly residential scheme on the Cornish coast. The developers, fed up with the banks, raised £26m through Funding Circle, and then offered their investors discounts on the units. But the thing that seemed to appeal most was that they set up a live webcam feed, so that the investors could see exactly what was being done with their money in real time.
“Others are massively forensic,” Jooste says. “They do their own diligence. And they are very vocal.”
As P2P is a predominantly online platform, it attracts its fair share of specialist tech investors. Jooste notes that the public forum is constantly buzzing with people swapping ideas and opinions. He reflects on what easyProperty managing director Rob Ellis says: “You learn to respect the forums.”
While there is seemingly no end to the variety of investor, Jooste does concede that he does not have the same open approach to the investments: “There are certain kinds of scheme that we are not interested in – industrial parks, retail parks. And we would obviously exclude deals that we would be uncomfortable with. But other than that we will be led where the demand takes us.”
Funding Circle is by no means the only P2P platform lending specifically to developers. Landbay, for instance, is a platform with a remit to lend on buy-to-let schemes. Some of the bigger crowdfunding platforms, such as Crowdcube and Zopa, are also putting money into property.
With the public appetite for real estate investment at an all-time high and the attractiveness of P2P increasing, some, including Bank of England policy adviser Andy Haldane, believe that this form of lending could one day eclipse lending from traditional clearing banks.
“Coming from a banking background, and understanding the pressures that banks are under, I think this will grow exponentially,” adds Jooste.
The real question is: what happens if and when the bigger banks get back their appetite for small-scale lending?
Because the capital regime for banks is pretty well set out for the next decade, there is at least a 10-year window for P2P and other alternative lenders to test their models.
One aspect where P2P holds the trump card is the speed at which funding can be raised and released – days or weeks, rather than months.
Another is lower costs. Challenger banks, such as Hampshire Trust, are operating in the same waters, but whereas they have to hold capital against their loans, which means they must charge higher fees, P2Ps do not. “We are under no illusions, though,” says Jooste. “They are big. We could not compete with them on scale. Deal by deal we could win.”
P2P is small compared with fire-power of the clearing banks, and it will stay small-ish. That is the appeal and the marketplace. But within that “small”, there is a lot of growing to be done.
“I think we will do £120m this year and £250m next year,” says Jooste, adding that getting more institutions lending through them will make bigger deals much easier. There are even conversations being had with traditional banks. “Some are sitting on huge amounts of cash and they are looking for an efficient way to deploy that.” This is already the case in the US.
As an idea of how big it could become, he points to bridging lenders such as Dragonfly, which has loaned £1.5bn. “That tells me where we could get to with this,” he says.
Even if the big banks do come back into this market, even if the challenger banks lower their fees and P2P ceases to be the trendy topic at dinner parties, Jooste argues that it has a lasting
appeal.
“The reputation of the banks is so bad,” says Jooste. “I know first-hand how badly developers were treated.” He adds: “People like investing, lending and raising money this way.”
Regulation of peer-to-peer lending
Some are concerned that peer-to-peer lending is a relatively unregulated market. Some P2P platforms have raised eyebrows with their advertising, which appears to imply that they are offering savings, not investments. There is little mention of the fact that, not only could investors not get the advertised 6.5% return, but they might lose all their money. And any investments made are not covered by the FCA.
Jooste believes this is where Funding Circle is different. It has been given £60m by the government to lend directly through the British Business Bank. “So there is due diligence,” he says.
Also, Funding Circle is increasingly looking to institutions to lend through and with it. It already has two, and there are conversations with more.
The net result? “We have auditors swarming all over us,” says Jooste.
Yet, while P2P lenders and crowdfunders are regulated by the FCA, they are not regulated in the same way that banks are, as they are not balance-sheet lenders. So is all the risk with the investors? No, Funding Circle argues. As all the loans are publicly viewable in the loan book it can be easily judged on its performance. “Our ‘skin in the game’ is that our reputation is on the line with every decision we make.”
And the regulatory burden is increasing. After the election it is believed that new regulations will be coming.
“Good,” says Jooste. “We have pushed harder than anyone in the industry to get the regulations.” He sees them as necessary to highlight the difference between outfits such as his – staffed by people with decades of experience in property finance – and the myriad of chancers which pop up promising to turn investors into the next Donald Trump.
“There are a lot of companies that brand themselves as P2P property specialists,” he says. “They are just portals. There is no expertise or actual work being done by these guys. Those taint the industry and our business.”
In the UK, the FCA is concerned that crowdfunding and P2P could be used by conmen operating “boiler-rooms”. Elsewhere, the sector has become a byword for dodgy dealing. In China, for instance, where P2P attracts 136,000 people a day and at the end of 2014 had loaned $22bn, stories of mismanagement, sharp practices and scams are rife.
The regulations already in place in the UK should prevent such excesses, and Jooste believes the current controls are proportionate. But tightening them a little might actually be of benefit to his business. “Once the cowboys start falling over, there will be a flight to quality and the lenders will go to us,” he says.
