Alternative finance is gaining serious traction in the UK market, with the sector recently pushing past the £10 billion milestone. Most people will probably still associate the idea of ‘crowdfunding’ with websites like Kickstarter or early-stage equity investments but it might surprise many of you reading this that in 2016 the alternative finance market totalled £10 billion in the UK, of which 97% is in debt-based crowdfunding – either P2P lending or Crowd Bonds.
Both P2P lending and Crowd Bonds are also making big strides into the mainstream thanks to the new(ish) Innovative Finance ISA (IFISA), which was originally launched to include P2P only but was then extended last November to include Crowd Bonds.
That’s a long way to come in a short space of time. When the UK crowdfunding association was first set up in 2012, our sector was still just a small group of entrepreneurs at the fringes with big ambitions to take on traditional financial services. To achieve this, it successfully pushed for a level playing field on tax and proportionate regulation by lobbying Government. But to be able to drive real change the crowdfunding industry also had to encourage some initiatives that effectively flew in the face of the ‘old school’ finance brigade. Too much of financial services inhibits people from accessing attractive returns unless they are already wealthy. Crowdfunding investing is not just about the money – success in this area of the industry is also about the number of people that invest in a project and the transparency we provide as an industry. Essentially, it’s all about giving people the chance to choose the business they want to back and see where their money is going, potentially achieving ‘decent’ returns without having to have many thousands to invest.
Downing LLP entered the crowdfunding space fairly recently, having launched its own online platform offering asset-backed Crowd Bonds to retail investors back in March 2016 and the Downing Innovative Finance ISA in March 2017. Crowd Bonds offered on Downing’s platform allow investors to invest directly in a range of UK companies, secured against the assets of the borrowing company. Terms range from six months to four years and the average weighted interest rate for the first 10 bonds was 5.8% (as at 13 April 2017).
Despite being relatively new in the world of crowdfunding, Downing’s platform has already been busy delivering exciting results for investors. The first ever Bond, Kenninghall Solar, sold out within 14 days. The £3.2 million one-year renewable energy bond offered 6.25% p.a. (including an early-bird bonus) and the final interest, together with capital repayment was paid in April 2017. Downing Crowd now has 12 Crowd Bonds in total and has raised over £22 million on behalf of small UK businesses (as at 19 April 2017).
But even as both Downing Crowd and the industry goes from strength to strength, there are still plenty of challenges for the sector to overcome, the biggest of which is almost certainly transparency following the FCA’s interim feedback calling for greater disclosure throughout the crowdfunding sector.
Crowdfunding platforms need to be more transparent about fees to start with. An investor should be able to see how the platform gets paid – by the lender, the borrower or both? Investors will naturally focus on the rate of return for lenders but platforms should also be upfront about the rate that the borrower is paying, as this can be a much better indication of the risk profile of that investment than the rate the lender is being offered.
Many P2P platforms are now being developed around an automatic bidding process which helps with diversification by spreading each investor’s funds across multiple loans. However, automatic bidding not only means that investors will often have very little sight of what they’re actually lending to and how risk has been assessed. By contrast, Crowd Bond platforms, including Downing Crowd, provide access to a smaller number of much bigger individual investment offers, increasing single investment risk but allowing the platform to take a much more thorough and upfront approach to due diligence.
Improving transparency in these key areas could also help clear up the lack of understanding that still exists around crowdfunding, despite its growing popularity. For instance, we keep seeing and hearing the IFISA being referred to as the “P2P ISA”, which is technically incorrect given that the IFISA can also hold Crowd Bonds too. This may all just seem like technical jargon but, as the point we’ve already made around automatic bidding highlights, there are key differences between P2P and Crowd Bonds which actually mean that one IFISA investment can vary greatly from the next.
Transparency is the key that has the potential to help the industry scale up and continue to attract more mainstream investors. At Downing we are focused on helping investors understand the risks by carrying out thorough due diligence and publishing full offer documents so that all investors can get a true feel sense of how the investee company has been researched and assessed before making any informed investment decision.
Disclaimer – Capital and returns are not guaranteed. Past performance is not an indicator of future performance. Any personal opinions expressed are subject to change and should not be recommended as investment advice or a recommendation.
 Liberum AltFi Volume index UK 17 February 2017 www.altfi.com/data/indices/UKvolume