The Warning Against ‘Aggressive’ Underwriting Goes Alternative

© Can Stock Photo Inc. / IamCDNTimes are good for lenders, but will an interest rate hike, expected later this year, or an economic downturn, end the party?

Not if lenders stick to a solid foundation of smart underwriting. That was the message at the LendItUSA conference, a gathering of the alternative lending community that drew more than 2,400 attendees to New York earlier this week.

Alternative lenders, also known as marketplace lenders, make loans either solely through digital channels or on a peer-to-peer basis. Alt lenders are acutely aware that rate hikes threaten their business model, which relies on user experience as a differentiator and rates that are typically higher than those offered by traditional lenders.

Mike Cagney, CEO of SoFi, which began in student loan refinancing and has since moved into personal loans and mortgages, noted that we are currently in a “virtuous credit cycle,” and indeed, that times are “as good as it gets” for lending.

“Any kind of underwriting works now,” he said.

Cagney said he could underwrite loans based on who likes a particular band, and these days, that would work, at least for now. Hans Morris, former president of Visa and now managing director of Nyca Partners, agreed, noting too that “the tools have never been better.” More data inputs are available, and the technology for harnessing that data is readily available and affordable.

But panelists agreed that while times were good, many lenders today had yet to face an economic downturn or have their underwriting standards tested. Siddharth “Bobby” Mehta, former chief executive of TransUnion, said:

What I get concerned about is the cascading relaxation of underwriting standards. When lending gets competitive, the length of the loan increases, the size of the loan increases. In these conditions, every incremental decision you make is fine, but then you look back in retrospect and see you’ve relaxed standards across the industry.

That’s been a distinctly acute fear in auto finance since the end of the credit crisis. Mehta added, “Interest rates will go up. The consumer will get stressed.”

Nyca Partners’s Morris noted that “more aggressive underwriting approaches in the thin-file world” had proliferated recently, and cautioned that offbeat approaches could spell trouble, and not just when the economy takes a turn for the worse. “Using LinkedIn to score borrowers looks sexy,” Morris said. “But what happens when the regulator comes and says, ‘You can’t do that?'”

But creative thinking can benefit lenders in other areas, such as mobile, which panelists agreed was essential for connecting with today’s borrowers, particularly millennials. “The move to mobile is real,” Mehta said, noting that the mobile experience is a more important differentiator than traditional branding such as television advertisements.

It is worth noting that both Wells Fargo and PNC have tightened standards over the past year of good times on the auto finance market, and sacrificed marketshare in the process. Nigel Morris, managing partner of QED Investors, sounded a cautionary note on risk management and underwriting in general, when he concluded the panel discussion with the following ominous remark: “Everyone thinks they know better, and the graveyard is full of them.”

Doug Lebda, CEO of LendingTree, which markets auto finance leads, was more optimistic.

“The diversity of underwriting criteria is what will prevent another crisis,” he said, adding that he was pleased to see that, so far at least, “no one is doing stupid or crazy stuff.”

So far.

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