Last month the Financial Stability Oversight Council (FSOC) released their annual report. This 165-page report highlights potential risks to our financial system by looking at new developments and providing recommendations to improve financial stability.
FSOC was established as part of the Dodd-Frank Act of 2010 and its mission is to identify threats to financial stability, promote market discipline and respond to emerging risks to the stability of the US financial system. FSOC is made up of heads of most of the financial regulatory agencies in Washington and was designed to help facilitate inter-agency communication.
FSOC produces an in depth annual report every year that covers pretty much all aspects of the financial system. Section 4.14 of this year’s report deals with new financial products and there is an entire section on marketplace lending. Here is their conclusion about our space:
Although marketplace lending has the potential to reduce costs and expand access to credit, the extent to which these benefits have been realized thus far is unclear. Furthermore, the marketplace lending model has not been tested through a full credit cycle. There are risks that misalignment of incentives could exist on these platforms.
One can’t really argue with the conclusions drawn here. They are basically saying the jury is still out on marketplace lending. It is still untested in a recession which is the most common criticism levied against our industry and one we can do little about. I disagree with the misalignment of incentives point but I know many industry observers who believe that is a potential problem.
In their section titled Potential Emerging Threats and Vulnerabilities the report bring up more concerns:
The limited performance history of loans made through marketplace lenders makes it difficult to determine whether marketplace lenders have assessed risk appropriately. In addition, the impact of the business cycle on the provision of new credit by such lenders is unknown, leading to the possibility of swings in credit availability. Growth in this industry and continued competition with more traditional lenders could lead to weaker underwriting standards.
These are all valid points that as an industry we should be aware of and continue to address as we go forward. We saw what happened in late 2015 and 2016 when some companies relaxed underwriting standards so that remains a valid concern of mine as well as FSOC.
Other areas highlighted by the report are (not surprisingly) cyber security and new technologies such as distributed ledgers and virtual currencies. These are all hot topics today and ones that have taken over as front of mind for many federal regulators.
Reading the entire section on marketplace lending it was good to see that there were no factual errors and that their conclusions about our industry were not off the mark. The report did acknowledge that we have the potential to increase the overall availability of credit and that was a good thing. But we have a long way to go before we become systemically important to the overall economy.