Fintechs are always looking for sustainable and diversified sources of capital to fund their loan originations in order to further their missions. Securitization has emerged as an efficient funding channel with more players looking to the markets to raise capital and broaden their investor bases. Loan securitization has been around for decades, and it should come as no surprise that as the fintech and marketplace lender platforms mature, they too are now looking to securitization to fund their loan originations.
The first securitization of a peer-to-peer or a fintech originated loan occurred around 2013. Since then, fintechs and MPLs have benefited from a very receptive audience of investors. That has resulted in some headline-grabbing deals across various asset classes by some of the industry’s largest players like SoFi, Prosper, Upgrade, and LendingClub, to name a few––helping to raise the profile of asset securitization within the fintech industry.
While securitization has gained traction, selling whole loans (and loan participations) to traditional financial depositories such as credit unions also offers a very large and attractive funding channel. These can also play an important role in a diversified funding strategy. Utilizing loan participation networks allows for broad expansion of credit union capital, increasing the appetite and reach within the credit unions, an opportunity which may not be fully appreciated by fintechs.
Understanding how loan participations work–and how the friction and challenges have been removed by the ALIRO loan participation platform––is important to appreciate the loan participation opportunity. Credit union loan participations represent a meaningful, attractive, and durable capital source for fintech loan production.
The securitization opportunity
Securitization–the process of bundling a pool of hundreds or thousands of individual loans into a single marketable security–has been widely used by fintechs in recent years. It allows for efficient match funding of the underlying receivables. It also gives fintechs access to securitization investors, allowing them to grow a diversified investor base consisting of insurance companies, pension funds, and asset managers who have the capacity to snap up deals.
Because these transactions are often rated by a nationally recognized rating agency, investors have assurance that the underlying loans and transaction structures have gone through appropriate diligence. Plus, the ratings allow investors to compare similarly rated securities across loan originators.
But there are some challenges to securitization, too. For one, the cost of securitization can be high, especially for an inaugural deal or smaller transactions. This is due to the involvement of parties such as investment bankers, lawyers, rating agencies, and trustees.
Additionally, fintechs take on some market risk with securitizations. They need time to aggregate a sufficiently sized loan pool. The securitization transaction may take several months to structure and execute. In the meantime, lenders are forced to originate and hold loans (typically in a warehouse) until they can execute the securitization without any guarantees about market conditions or investor receptivity. There is a risk that the capital markets may soften or experience disruption resulting in undesirable execution, or worse, sometimes saddling sellers with the loans.
The case for loan participations
Loan sales (and loan participations) into traditional depositories such as credit unions provide a very attractive and meaningful funding channel. They have a number of advantages.
For one, credit unions currently have a lot of available capital sitting idle due to increased deposits and a slowdown in organic loan growth. Current reports estimate there is $300 to $500 billion in excess capital within credit unions that needs to be deployed into loans or investments, the most excess capital they’ve had in many years. Further, credit unions are limited in what they can invest in and therefore have a strong appetite to purchase whole loans and loan participations. Loan sales into credit unions often provide better execution compared to securitization, making credit unions a very attractive funding partner for fintechs.
However, recruiting and maintaining multiple credit union relationships is a lot of work . You need to establish the relationships, manage those relationships, conduct diligence, provide ongoing accounting, remittance, and reporting support. Managing a large syndicate of individual credit unions can be complex and is typically not core to a fintech’s business, so they lack the resources and often shy away from working directly with credit unions.
But working with a loan participation platform like ALIRO solves these challenges, opening up access to the credit union capital channel and making it efficient, scalable, and durable. ALIRO not only provides the innovative technology to streamline the process and reduce the friction of loan participations, but also provides access to a large syndicate of motivated credit union loan buyers.
Another advantage is ALIRO’s forward flow programs, which provide certainty and visibility to future available committed capital and execution, allowing fintech’s to better manage their ongoing loan origination business.
In summary, loan sales and participations have certain advantages to securitization and should play an important role in a well-diversified funding and capital strategy. Developing a loan participation syndicate of credit unions can provide significant capital to help grow your business, often at better execution levels and lower costs versus securitization. By structuring a forward flow partnership with a credit union loan participation syndicate, you lock in certainty of execution with a new investor base.