Credit aversion may be a bigger problem for banks and AltFi than credit defaults.
63% of the sought-after millennials don’t have a credit card, according to a survey commissioned by Bankrate and compiled by Princeton Survey Research Associates International. PayDay Lending, Overdraft Fees, Credit Cards all make money from the imprudent customer. Lenders assume high default rates and build that into high interest rates. It is a vicious circle. In today’s research note, we went looking for Fintechs who are figuring out how to make money from the credit averse prudent customer.
Credit cards are OK, it is how you use them
For a long time, children were taught how to game the credit system. You get lots of credit cards, run up high balances on them and pay them down promptly. That way you build a FICO score. Then you can get loans for important things like a car or a house at reasonable rates. You may decide not to take any loans, but you have the option.
Then we get bombarded by ads and ever more frictionless ways to spend money and even the most disciplined waver.
The millennials seem different. Coming of age around the Global Financial Crisis of 2008 makes them like the Silent Generation that grew up during the Great Depression. They have been scarred by the experience and become credit averse.
Scarring events affect behaviour for a long, long time. If you burn your hand on a stove, you only do it once. The Cyprus so-called “bail-in” in 2013 (read, Government literally taking cash out of your bank account) is one such scarring event. So I was interested to hear Natasha Kyprianides of Hellenic Bank in Cyprus in last week’s Pirates with Ties interview talk about the “Spendometer” feature in their mobile app. This is a digital version of the way prudent people use cash in their wallet. You limit how much cash you take out and you can easily “eyeball” how much you have left. As we move to more digital cash, a digital version of this simple look in the wallet method becomes critical.
Of course a bank does not make money helping you to be prudent. It is a service that may keep you around to make you more likely to spend money on something else. In simple terms, banks and Fintechs need to find a way to make money on the current account. As the modern current account is digital and mobile, this is not as hard as it seems.You have Moore’s Law on your side. The incremental cost of a new user is close to zero. You can accumulate a large number of free customers and only convert a tiny % to something paid and still make good money. Many Freemium ventures have proven the model.
One of the Fintech pioneers in this game is Frees. Daily Fintech profiled Frees an eon ago in 2014. Shameless plug: if you want this kind of insight before others, join over 8,700 Fintech leaders and subscribe by email to get your own Daily Fintech (it is free).
Squirel.me is also targeting this prudent customer. They won first place based on the Daily Fintech venture scoring methodology at the Barclays Techstars graduation party in London in 2014.
There is nothing wrong with credit if used wisely. The problem is that the FICO score that underpins the consumer credit industry is broken at three levels:
- # 1: about 25% of consumers are no file or thin file. There are good credit risks in there. Finding them through alternative scoring methodologies is a good business.
- # 3: The Rest of the World (leading innovation in mobile money and the engine of global growth) has no equivalent of FICO score.
- # 3: Economic migrants who change countries with a good job and with a good credit history in their home country, arrive in their new country looking like deadbeats because they have no local credit score. These “hidden good credit risks” are another niche open to innovators.
One of the biggest AltFi players is SOFI. Their CEO, Mike Cagney, has gone on the record to state that FICO is broken:
“We just don’t think the score itself is a real driver to credit performance.”
We have found four ventures building FICO alternatives. This is one of those “market windows big enough to drive a truck through”, so we assume we have missed some and we trust that the Daily Fintech community will fill in the blanks in our open source research by telling us what we have missed (use comments below or Twitter by adding @dailyfintech).
- Aire. They won second place based on the Daily Fintech venture scoring methodology at the Barclays Techstars graduation party in London in 2014.
- PRBC. The initials spell Pay Rent Build Credit and that explains the concept. If a consumer pays rent reliably for years, they may pay a mortgage regularly as well. PRBC now also analyzes other spending. PRBC is one of 5 official Credit Bureaus in the US that is FCRA (Fair Credit Reporting Act) compliant.
- GetSaida. This Y Combinator 2015 alum targets the Underbanked by checking “how you have been using your phone to make calls, sms, data and how you use mobile money services such as M-Pesa. Saida will notify you of the amount of money you can apply for”. They then send the money to you Mpesa account.
One venture does not fit any obvious category, but is radical and practical is National Family Mortgage This is genuine P2P, without even a marketplace; that are happy to just be a utility. Daily Fintech profiled the history of this radical but very practical alternative here. The prudent family is a powerful force.