Peer-to-peer lending: the future of finance?

As a flurry of new platforms for investing money hits the internet, dissatisfaction with traditional banking is beginning to lead to a movement for a viable alternative, reports Lee Williams

Do you know your peer-to-peer lending from your online equity? Crowd funding from crowd investing? With alternative forms of finance hitting new levels of popularity, these are all terms that might be in everyday use in the very near future.

Peer-to-peer lending sites, such as Zopa and Funding Circle, which have been running for a number of years, have already proved successful. They work by matching online lenders with borrowers, and the interest rates are agreed by the two parties.

Zopa has seen more than £220m lent through its website and the Bank of England’s executive director for financial stability, Andy Haldane, suggested in March that peer-to-peer lending could eventually replace banks in offering personal and small business loans.

Other alternative finance models are coming online fast. Seedrs is an online equity investment site that specialises in start-up companies. The first online finance market fully regulated by the Financial Services Authority (FSA), Seedrs allows investors to play Dragon’s Den by choosing small businesses to buy shares in, with Seedrs managing the shares for them.

“The Bank of England’s executive director for financial stability suggested that peer-to-peer lending could replace banks in offering personal and small business loans”

With participants able to invest between £10 and £150,000, the scheme gives possible returns of up to 22% and investors can benefit from tax breaks offered by the government’s Seed Enterprise Investment Scheme. The risks are proportionally higher though, with many start-up companies failing. CEO and co-founder Jeff Lynn explains: “Investing in Seedrs is about building a portfolio in the hope of getting several start-ups that do very well and counterbalance those that don’t do as well.”

Abundance Generation, another new online investment platform, also follows the crowd-funding model. However, Abundance focuses on allowing investors to buy debentures (long-term loans) in renewable energy businesses.

Investors can start with as little as £5 and see yearly returns over a long period. Currently, investments are limited to wind and solar power businesses, but the company’s co-founder, Bruce Davis, has big ideas for the future. “We’re looking to fund schools and hospitals,” he says. “We ultimately hope that you can buy a wind turbine as part of a wedding list.”

Bringing together the different ways businesses can raise money though online peer-to-peer funding, Bank to the Future is the latest site to launch. The company offers three different types of transaction: crowd funding, where non-financial rewards are offered to supporters; crowd lending, where loans are made to established small businesses; and crowd investing, where shares are bought in start-up companies.

But is all this innovation just a flash in the pan until the economy recovers and we forget our disillusionment with the banks? Bank to the Future’s CEO, Simon Dixon, doesn’t think so. He believes that in the near future, banks will get out of personal and small business lending altogether.

“The crowd-funding industry is growing at 367% per year,” says Dixon. “At the same time funding to small-to-medium-sized businesses from banks is decreasing at 8% per year, so if those trends continue, by 2016 the crowd-funding industry should be serving more small businesses than the banks.”

“We ultimately hope that you can buy a wind turbine as part of a wedding list”

So could this sort of alternative finance solve the problems of our boom and bust economy? Andrew Jackson, a researcher for banking reform group Positive Money, rings a note of caution: “Peer-to-peer lending bypasses banks, which is great, but the whole structure is still built on top of the debt-based money system.”

According to Positive Money the only real solution to our banking woes is the wholesale reform of our monetary system and the removal of the banks’ power to create money.

Abundance Generation’s Bruce Davis agrees but sees a complementary financial system growing up alongside the traditional one rather than replacing it. He even envisages a time when his company would create an alternative currency backed by renewable energy.

A lot of traditional banking has passed its usefulness and will soon be left behind, he says: “In ten years’ time we’ll laugh at the fact that we had a massive branch banking network and thought that was important.”