By Bernard Lunn
The two biggest investment decisions that consumers face are education (which we looked at last week) and home.
Mortgage lending is a very profitable business if done right. For decades it enabled the banker’s 3 6 3 life:
- Borrow at 3%
- Lend at 6%
- Tee off on the golf course at 3
(OK, in a ZIRP environment that is now 0 3 3 – at least the golf time remains the same).
So what is that spread today? First, banks like to make it hard to understand with closing costs etc etc. Marketing via obfuscation is a powerful thing.
So lets do a very simple check on BankRate for one day 27/8/2015) for one market (America) and look at:
- What you pay to borrow: 3.75% was the best rate
- What you get when you lend 5 year CD: 2.25% was the best rate
So it looks like the spread is not as sweet as it used to be in the good old days of 3 6 3. It looks like it is now more like 1.5%. However Banks do not perfectly match assets and liabilities. If they did, there would be zero systemic risks and banks would not make much money. Banks can also lend you money that you have put in savings and current accounts without any term (ie that you can withdraw at will). That rate is closer to 1.25%. You can see why fractional reserve banking is profitable. Alternatively Banks can borrow at the Fed Funds rate which is currently at 0.25%.
Of course all that went horribly wrong in the subprime mortgage crisis. Actually, the problem was much greater than sub prime. Real estate brokers were selling high end real estate with zero % down and negative amortization (“everything will be fine as long as property prices continue to rise which of course they will do”).
The simple problem was loan to value ratio. That has now normalized. This of course makes it hard for young people to get their first foot on the housing ladder. So they turn to family to lend them the money.
Which brings us to the most radical innovation in mortgage lending – which is a “whatever happened to?” story.
The radical innovation is family loans. This is genuine peer to peer. Aunty Josephine lends to young Sammy. They split the difference ie take the Bank’s spread. Both get a better deal than they would have got from the Bank. Note that this is totally different from something like Lending Club which is really marketplace lending between strangers. Both are good models but they are totally different. In the family loans model, it works because of relationships of trust. It does not have to be family. It could be a friend or a colleague. The key is trust. All the venture does is handle the loan servicing – all those boring contractual details. The venture does very little and takes no risk and charges an appropriately low fee.
Here is the “whatever happened to?” story (as told on Wikipedia).
- CircleLending was founded in Cambridge, Massachusettsin May 2000 by Asheesh Advani and launched in 2001. The company was then incorporated as CircleLending, Inc. in July 2002. In 2005 the company moved to Waltham, Massachusetts. In 2006, the company received venture capital from Venrock Associates, Bezos Expeditions and Omidyar Network totalling $10 million.
- In 2007, theVirgin Group acquired a majority-stake in the company and renamed it Virgin Money Holdings USA Inc., the American division of Virgin Money. Virgin Money US focused solely on formalizing and servicing loans between friends and family, a business model which differentiated it from later social lending and crowdfunding businesses which encouraged loans between strangers.
- In 2008 the company bought Lendia, and renamed it Virgin Money USA Inc., but sold it back to its founder, Greg O’Connor, the following year.O’Connor’s company, formerly Lendia, continues to operate as Clearpoint Funding, Inc.
- Founder Advani left the company in 2009.In 2010, during the financial crisis of 2007–2010, Virgin Money began its withdrawal from the US market. Virgin Money US withdrew from the US market entirely in November 2010. Servicing of its social loans was transferred to its servicing partner, Graystone Solutions, who continue to service the social loans under their own brand.
- In 2010 a former Virgin Money US employee launched a new venture, National Family Mortgage, to address the intrafamily real estate loan void created by Virgin’s departure.
So often in the venture world we see ventures that fail because their timing was off. This seems like one of those stories. Methinks another entrepreneur will seize the day.
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