Provision Fund will withstand the doubters

By Peter Behrens on Friday 8 July 2016

OpinionAlternative Lending

AltFi’s recent article about contingency funds looked at data we publish on our Provision Fund.  

RateSetter pioneered the concept of the Provision Fund and it has always been a very important feature of our model. Although the Fund does not exist to guarantee safety, it offers a layer of through-the-cycle protection and predictability to investors. It has a great track record: every individual investor has received every penny of capital and interest – this is unique amongst major P2P platforms and sets RateSetter apart from other investments such as equities and property too. It is a track record that we are proud of and are highly incentivised to maintain.

We were delighted that the innovation of the Provision Fund was recognised by AltFi at the end of 2015 with the Award for ‘Investor Protection Product of the Year’. We also welcome the fact that the concept of a contingency fund has been adopted by others in the emerging P2P space because the greater the understanding of how they work, the better.

But we do not expect investors to simply take our word for the cover the Provision Find provides. We are big believers in the power of transparency to help markets grow, so we are open about the performance of RateSetter loans and the Provision Fund. The whole point of transparency is that it can be uncomfortable, but we take the view that it underpins better decisions and builds a stronger business. We have actually achieved a step change in the amount of published information compared to most other financial businesses. Detailed, largely real-time, data is freely available for investors, analysts and journalists to examine and scrutinise as they like.

The AltFi article speculates that contributions into the Provision Fund during 2014 will not cover the losses on loans written that year. We do not actually think this will turn out to be the case: while 79.1% of that year’s contributions to the Fund has been spent, 77.8% of the money lent that year has been repaid and with the combination of seasoned loans typically performing better, recoveries from existing defaults and also future Provision Fund income from the 2014 cohort of loans we expect the number to come in below 100%. The years 2010, 2011, 2012 and 2013 will certainly result in a surplus each year. The objective is that every cohort of loans makes an appropriate contribution to the Provision Fund – but good years are there to stand behind bad years. We have learnt from the lending in 2014 and acted quickly and decisively to stop using channels for loans that did not perform as well as we expected them to – such learning makes any system stronger. We expect 2015 to perform well.

We recognise that our model stands or falls on our ability to underwrite credit and to provide appropriately, all within the confines of remaining competitive. We are not complacent and over the last two years we have made some important refinements. For example, we have prudently chosen to collect more Provision Fund contributions over the lifetime of our loans, rather than taking the entire amount upfront, which we believe is a sustainable and fair model. This stream of future contributions is now substantial – several millions of pounds – and we will add it into our published data later this month. We now use two, rather than one, credit bureau scores to assess the creditworthiness of loan applicants and we are adjusting contributions prudently following the vote to leave the EU. We are also making the governance of the Expected Loss figure more robust.

RateSetter exists to provide investors with access to the returns that loans generate, something that was previously the exclusive domain of banks and institutional credit funds. We are opening up a new “asset class”, that sits between the guarantee of a bank deposit and the potential volatility of other investments. Yes, this will be tested – and it needs to be tested to show its worth – but the Provision Fund remains well covered and we are confident that it can withstand these tests. 

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