It is easy to be cynical about the hype surrounding fintech and its ‘revolution’. However, looking beyond the hype, the financial innovations driving the growth of Alternative Finance are working to the benefit of the individual investor, by offering access to projects and businesses that were previously the preserve of exclusive private investor networks.
Crowdfunding and p2p lending reached a cumulative £10bn of issuance this month (according to Orca Finance) since 2005. This may seem like a drop in the ocean in a world where our collective ISA’s add up to 100’s of billions in cash and stocks, but it is the new types of investments that £10bn represents which is significant for investors.
Alternative finance does compete directly with the banks and building societies for certain borrowers and issuers, particularly personal and small business loans, but it also opens up new types of projects which the industrial scale high street banks find uneconomic to service.
There is nothing new in this type of growth. Building Societies, which were first regulated following scandals at the end of the 19th century, only grew massively when banks stepped back from small scale property lending at the beginning of the 20th. Crowdfunding platforms can carry out due diligence and provide finance to offers at a scale which doesn’t make economic sense for conventional retail and investment banks. The crowdfunding sweet spot is between £1m and £4m, soon to extend to £7m – £8m when changes to the Prospectus Directive are implemented later this year.
Even specialist funders such as managers of investment and pension funds are moving up the food chain looking for bigger deals that deliver the economies of scale they need. Crowdfunding platforms can be nimbler and more targeted in the assets classes they seek to invest in by virtue of the lower costs and efficiencies of their direct investment models. Crowdfunding offers a new ‘minimalism’ and transparency compared to the more baroque structures and opacity of conventional collective investment models. Crowdfunding’s expertise (the people who assess our deals) is recruited from the big institutions, but our model and approach is designed to be efficient working on the smaller deal size.
Targeting smaller, more numerous and discrete projects means that smaller investors can spread their investments more easily and quickly than was the case when four or five figure investment minimums were the norm. Investors can also move across platforms to gain exposure to different assets. There were more than 80 different regulated p2p and crowdfunding platforms in the UK at the last count (in 2015), a number only surpassed by China (more than 400) and USA (c.130 platforms). By virtue of the principles-based regulatory regime in the UK, which promotes innovation and competition, the UK market is perhaps the most diverse and diversified globally.
The UK Treasury recognised the major benefits to both the real economy and to private investors from gaining direct access to companies and projects through loans and bonds. This is what underpinned their creation of the new “Innovative Finance ISA” (IFISA) – to sit alongside Cash ISAs and Stocks & Shares ISAs – and encourage individuals to invest in crowdfunded loans and debt securities by making all returns free of tax.
The introduction of the IFISA is a pivotal development for the investor who may have previously overlooked p2p and crowdfunding as a relevant option. For many, simply the fact that the hugely popular ISA wrapper now offers an alternative finance variant will make a difference, with its implicit Treasury endorsement of p2p and crowdfunding as mainstream investment assets. However, the biggest difference is that all returns can now be enjoyed free of tax, improving the returns in the investor’s hands significantly; the 8% p.a. and 12% p.a. returns currently available on our platform would remain a full 8% and 12% if taken out through our IF ISA wrapper, rather than being reduced by the investor’s marginal tax rate or eating into their Chargeable Gains allowance.
Importantly, the arrival of the new IF ISA levels the taxation playing field across cash, stocks & shares, and alternative finance and with this, significantly widens the scope for sensible diversification without any need to sacrifice tax efficiency. As the new rules allow ISA holdings from previous years – as far back as you wish to go – to be transferred to an IF ISA, the new level taxation playing field opens the door for investors with too much of their portfolio in cash and/or equities to move appropriate amounts to p2p and crowdfunding assets with higher returns than cash and less volatile (and correlated) returns than equities. This new opportunity for real diversification has clearly not escaped our own IF ISA buyers to date, with more than half of the money invested coming in from transfers from previous years cash and stocks & shares ISAs.
Of course, there are those who want an automated approach and would prefer to trust the liquidity, expertise and diversification of publicly listed funds to access these investments but the reality is that many of the companies which are driving the technological and sustainable change operate at a scale which is below the radar of such players. Listed companies too are recognising the value of alternative investments to diversify their own funding sources with my own platform delivering a successful multi-million bond issuance, eligible for the IFISA, as I write.