By Greg Brainard
Innovations in financial technology have brought about meaningful and positive changes in the daily routines for businesses, individuals and families. Fintech technological innovation has moved us from a world of cash register checkouts to virtual wallets, from in-person & paper credit checks to seamless AI-based scoring and underwiring. We are living through a truly revolutionary period that has reshaped financial services dramatically. Entrepreneurs and farsighted financial executives from around the globe are continuing to innovate at pace despite the lockdowns and other hindrances. Blumberg Capital and many prominent fintech entrepreneurs and leaders of traditional financial service businesses recently attended LendIt Fintech. It is one of the largest fintech conferences and this year it was held virtually. Here are a few of our takeaways:
1) The Lockdowns And Remote Work Have Changed Fintech Operations And Products
The pandemic and subsequent variety of lockdowns were strong catalysts towards work from home (WFH) operations. This has had many effects on the world of financial services: some positive, some negative, some foreseen, others rather surprising, some short term, others more catalytic and long-lasting. The sharp economic shock of the lockdowns had to be buffered by unprecedented financial support by the federal government for SMBs and delivered via the private sector traditional lenders and the newer and more nimble fintech leaders. The Paycheck Protection Program (PPP) channeled hundreds of billions of dollars to tens of millions of businesses through concessional loans. The PPP was executed at massive scale and phenomenal pace – with fintech companies such as Lendio and Kabbage playing key roles. Lendio alone facilitated over $10 billion to over 200,000 small businesses. The outsized role of the newer fintech companies in the realm of SMB lending is particularly notable because the fintechs helped ensure that newer, smaller, less established, less connected and underbanked business entrepreneurs were also able to obtain PPP loans. While traditional banks and other lenders are often saddled with legacy banking software, and more bureaucratic processes, the fintech upstarts are born digital. Their procedures are streamlined and better suited for the financial services needs of tomorrow – today.
The changed economics of the lockdowns brought changes to underwriting. Traditional underwriting used the history, cadence and reliability of debt repayment as core metrics. Yet, since March 2020, tens of millions of consumers have delayed or deferred repayments – formalized in forbearance processes. This makes underwriting more difficult because it allows deferral of loan payments and thus delays possible delinquencies. Underwriting models based on regular payments don’t work well in this strange new world of lockdowns and inability to make regular payments. Without payments and delinquencies to feed into traditional underwriting models, lenders must turn to alternative data sources to produce accurate results.
2) The Importance Of Alternative Data In Underwriting
So the lockdowns have accelerated the move towards the use of alternative data in underwriting. Alternative data is a broad term that includes bank balances, historical sales data and outstanding invoices, among many others.. One related issue is the deferral of delinquency due to forbearance. That deferral is read by traditional underwriting models as an improvement in the consumer’s financial health, but in reality, the consumer may have become unemployed or been furloughed – factors not picked up by traditional models.
Ms. Swati Bhatia, Chief Payments Risk Officer at Stripe indicated “alternative data sources will be crucial” when traditional data fails. In her previous experience at PayPal, payments data was found to be as accurate and predictive as prior lending data.
Cash flow data is also being utilized to good effect by underwriters as a rich source of insight. During his session Prashant Fuloria, CEO of FundBox emphasized that cash flow measurement is a key focus for the company. Not only are cash flows important, but details on how the cash is generated and how it is spent is useful. Is it an ACH payment or a stimulus payment? These feedback loops help improve underwriting algorithms, enabling them to become smarter and more accurate when properly applied.
The lockdowns have also proven that alternative lenders are strong and getting stronger. The catalyzing effect towards virtual enterprise applications spurred the faster adoption of alternative data for underwriting. The result will be improved underwriting, increased credit access and more competitive pricing of financial products. In a related development, we expect to see a growing number of aggregator businesses focused on previously untapped data sources for underwriters.
3) The Proliferation Of Fintech Solutions For The Underbanked
According to a 2019 study from Charles Schwabb, 59% of Americans live paycheck to paycheck. Other sources indicate the figure is higher. It’s clear that too many Americans are underserved by traditional financial institutions, without access to affordable loans or even without savings accounts. However, many new fintechs have stepped up to address the needs of this population.
A common product offering among these businesses, such as PayActiv, EarnIn and Even, is earned wage access (EWA). EWA is a flexible loan product that allows employees to access the wages they’ve earned, but not been paid. Instead of waiting until the end of the pay period, employees can access their cash earnings immediately. This is designed for the many Americans who haven’t built up savings. Accessing wages in real time often allows consumers to avoid the spiral of high-interest payday loans and overdraft fees. PayActiv estimates that every time a consumer uses their platform, 18-20% of savings are generated via the avoidance of these penalties.
The EWA and other flexible financial services products attract employees through the cash and benefits. We’re already seeing this trend manifest with companies such as WorkJam, which offers EWA as part of its digital workforce platform. Embedded financial products such as EWA become a powerful tool not only for consumers, but for businesses to attract and retain them as employees.
Fintech Drives the World Forward
Innovations in financial technology have brought about changes in the daily lives of businesses, individuals and families. From increasing our access to credit to improving our overall financial health, fintech has made a meaningful impact. We look forward to working with the next generation of entrepreneurs building products that will power a more prosperous and just global community.