George Passaris, Head of Securitisation at the European Investment Fund commented on the EIF's involvement: “Small businesses across the UK will benefit from the European Investment Fund’s significant new support for Funding Circle, one of the UK’s largest peer-to-peer platforms. The EIF is pleased to work alongside KfW on the first securitisation transaction in Europe to support alternative financing of SME’s that will help Funding Circle provide more loans to small and medium-sized businesses. This new engagement demonstrates the European Investment Fund’s firm commitment to help companies across Europe and across the UK to expand, create jobs and explore new opportunities.”
Rita Geyermann, Head of Asset Management at KfW added: “Investing in securitisation transactions backed by SME exposures in Europe has become one of our promotional objectives in order to support the availability of finance to SMEs. By investing in this innovative transaction in cooperation with the EIF, we are convinced we can stimulate SME lending via capital markets in the UK.”
In May 2014, a report by the Bank of England and the European Central Bank set out the case for a better functioning securitisation market. The hope was that securitisation would open up small business lending as an asset class to an even wider range of investors, thereby increasing lending to small business in the real economy and reducing dependency on bank lending. This transaction is the first of its kind in Europe and a major step towards achieving the BofE and ECB aims, as set out in that report.
Since its launch in August 2010, Funding Circle has provided over £1.24bn of financing to UK SMEs and currently has a 20.43% share of all UK marketplace lending (consumer and business) according to AltFi Data’sLiberum AltFi Volume Index. Funding Circle is now one of the largest net lenders to small businesses in the UK, rivalling the net lending of the UK’s high street banks. SMEs in the UK are very important to the real economy - according to the Federation of Small Businesses, 47% of private sector turnover and 60% of private sector employment in the UK comes from SMEs.
Sachin Patel, Global Co-Head of Capital Markets at Funding Circle and a key figure in getting the transaction off the ground, explained: “This landmark transaction is the first of its kind. The investment by KfW, with the support of the EIF, marks the next step in our journey to open up a traditional fixed income asset class to new types of investors for the first time. We’re committed to building the infrastructure where any investor, big or small, can lend to small businesses across the world.”
Full details of the deal, including pricing, can be seen below. Looking at the pricing, it is perhaps easy to see why investors like the look of the deal.
The A tranche pays Libor plus 220bps – about 2.7% currently. The tranche is rated Aa3 by Moodys and comes with a guarantee from an AAA rated supra-national entity. By comparison, 2yr UK government debt (also rated AAA) is currently yielding 0.52%. In a world of negative interest rates, the A tranche looks like a compelling investment for investors with a low risk appetite.
The more junior tranches look appealing too. For example the D tranche, which offers a discount margin of 775bps and 18.10% credit enhancement (i.e. there can be 18.10% bad debt in the securitisation pool over the lifetime of the deal before holders of that tranche lose any principal), looks very attractive. Particularly when one considers that the current estimated annual return from investing in Funding Circle loans directly is lower than what the tranche pays at 7.4%, and that 7.4% estimate is based on an annual bad debt rate of 1.8% - significantly lower than the default cushion D tranche owners will enjoy.
Tranche
Rating (Moodys/S&P)
Size (£m)
Weighted Average Life* (yrs)
Credit Enhancement **
Coupon (over 1month £ Libor)
Price
Discount Margin (bp)
A
Aa3/BBB
87.80
1.24
33.70%
220bp
100.00
220
B
A2/BBB
6.10
2.69
28.95%
425bp
100.00
425
C
Baa2/BB-
7.80
2.97
22.95%
550bp
97.99
625
D
Ba2/B
6.30
3.29
18.10%
650bp
96.42
775
E
NR/NR
14.70
3.75
6.70%
Not Offered
Z
NR/NR
6.50
3.92
N/A
Not Offered
Total
129.20
*Assumes zero default, 0% CPR rate; clean-up call being exercised
**1.7% Reserve Fund included
The completion of this transaction comes at a time when marketplace securitisations in the US are under significant scrutiny. Earlier this month, there were reports that Citigroup was calling a halt to the securitisation of Prosper loans. Meanwhile, earleir in March, Moody’s put 3 bonds of a Prosper securitisation on review for downgrade citing higher than expected losses within the portfolio. It is therefore reassuring to see this deal close and it appears that other UK based lenders are gearing up to follow Funding Circle's lead. We reported just this week that LendInvest had signed a £40m warehouse line with Macquarie. The much talked about securitisation of UK marketplace loans is finally gaining momentum.
