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Msc Financial Management Services: Financial Crises

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Question:

Discuss about the Msc Financial Management Services for Financial Crises.

 

Answer:

Describing the new market model for online/marketing lending depicted in the article and depicting the major difference from conventional banking:

From the evaluation of the overall article, new market model for online/marketing lending measures can be identified, where relevant online lending measures are conducted by organisations. The relevant article directly indicates the possibilities that have increased the possibility of fulfilling the borrowing needs. The overall possibility of new marketplace lending directly reduces the extra cost and inefficiencies of the bank. Moreover, the article also states that online/marketing lending model mainly commenced the work after the  when the banks were not able to providing relevant provisions for the borrowers. Moreover, the financial crisis also forced the FED to reduce interest rates at zero level, which promoted the activities of online/marketing lending. Emekter et al. (2015) mentioned that due to the zero interest rates lenders were able to provide adequate loans to borrowers, where no costs is incurred from operations. From the evaluation of the article, it was also identified that total advanced outstanding increased from $1 billion in 2010 to $12 billion in 2014, which directly indicates that rising demand for the services of online/marketing lending.

Moreover, the article also depicts that Lending Club and OnDesk Capital US operators directly raised $1.23 billion from the stock market, which provided online/market lending more capital for their business. This rising trend of online/market lending mainly increases the risk, which could be identified from operations. The old ways of lending mainly has a complicated process, from which the actual credit worthiness of the individual is evaluated to identify viability of the borrower. Hence, the relevant online/market lending process directly needs only three months of banking statement for providing adequate loans to the borrowers. This mainly increases the overall business capacity of online/market lending as compared from the traditional conventional banking. Jiménez et al. (2014) mentioned that different finance providing companies after the financial crisis have sprung, which directly provides capital for different individuals.

Moreover, from the evaluation, it could also be identified that online/market-lending process has increased in recent years due to the availability of funds in the market. The article directly highlights Household or GE Capital Companies who are currently dependent on market funds to support their overall operations in US. This relevant availability of funds is mainly due to the absence of alternatives, which could provide higher returns from investment to an investor. The article also indicates negative attribute, where the history of liquidity is reminded, as shrinkage of spreads, sudden spike in loan losses, and regulations could directly liquidate or trigger a liquidity squeeze in the overall market. The identified negative attribute could directly affect operational capability of the organisation, which is providing financing support to the borrowers. An adequate example of lending club is presented, which directly depict the overall condition of companies lending money to the borrowers (Everett 2015). The company's overall revenue was $96 million from which only $86 million came from transaction fees, whereas the organisation has an expense of $100 million. Therefore, it could be identified that if the company is not lending more money than the losses incurred by the organisation will quickly pile up and increase the insolvency condition.

However, the evaluation of the article it could be identified that Online/Market lending process is an innovative technology that have directly reduced cost and increased quickness in assigning the loan. Moreover, it is also indicated that increasing competition in the market for directly for the lending organisation to increase the risk by providing loans to adverse credit individuals. Hence, it could be identified that lending companies are currently in greater risk, which could need to insolvency condition (Guo et al. 2016).

The relevant difference between online/marketing lending and conventional banking are mainly depicted as follows.

 

Qualifications:

From the valuation, it could be identified that conventional banking directly increases difficulty for small businesses where their product does not qualify to provide relevant returns to the banks. Moreover, there is a need of conventional banking for the loan process, where the organisation needs to be running for at least 2 years, which will directly enable them for the loan. The adequate score of 700 or more for FICO is also required for the business for attaining for the relevant loan. However, the qualifications for the Online/Market lending are mainly lenient, where only it requires 3 months for the business to attain adequate loan. Furthermore, the Online/Market lending does not put any kind of problems, which might reduce commencement of the loan process (Subrahmanyam, Tang and Wang 2014).

Paperwork:

There are relevant paperwork’s that is conducted by banks in comparison to Online/Market lending process. The overall paperwork directly includes financial data, investment information, and business summary, which directly increases the loan completion process. Furthermore, through the traditional approach lenders need to provide all the relevant business income tax returns, legal documents and other information to the bank (Lin et al. 2013). Moreover, the Online/Market lending process does not involve high documentation, where is it requires less documents for passing the loan. For example, Fundbox invoice financing only provides online accounting services only needs 6 months of accounts for providing relevant funds to the organisation.

 

Funding times:

The difference between conventional banking and online/marketing lending is the overall time that is taken for providing the relevant funds to the lender after the approval. The conventional banking system could take few weeks to few months for notifying regarding the decisions taken for the loan process. This high time that is needed by the conventional Bank major difference, which could be seen from online/marketing lending process. The overall online/marketing lending process provides adequate capital for daily expenses and investment that is necessary for equipments. Therefore, it could be identified that online/marketing lending process could provide decisions as fast as one business day. For example, companies like Lending Club and OnDesk Capital directly provides lender with the loan amount in one day after scrutinising their credit rating (Ingram, Littlewood and Lau 2013).

APRs:

Moreover, one of the major downfalls for online lending is the APRs, which is relatively higher despite the union requirements and fast funding address provided online lending. Moreover, the overall online reading process could have APRs well above 90%, which could directly have impact on the operations (Gilchrist and Mojon 2014). However, conventional banks have a low rate APRs, which directly help in improving their overall credit rating for. Moreover, conventional banks can provide single digit APRs, when borrowers are qualified for the loans. For example, one of the online lending companies such as OnDeck directly provides single digit APRs the lenders who have the excellent credit scores.

The Bottom Line:

Therefore, from the evaluation it could be identified that the use of Online/Market lending process is mainly for small organisation, which are in need for capital to expand their business. Therefore, from the valuation with the identified those small businesses are not able to qualify for the traditional loan requirements. These rejected borrowers were directly using the Online/Market lending process for gaining relevant capital, which will help in their business process. However, the traditional banking approach could provide funds at lower rates, which is not possible for Online/Market lending process (Acharya, Drechsler and Schnabl 2014). Therefore, from the evaluation it could be identified that companies who needs short-term loan on high interest rates can take loan from online/market place, while the companies that needs low interest rates loan could take loan from conventional banks.

 

Depicting the financial risk present in online lending and stating the effects of economic financial stability if marketplace lending substantially increases:

There are financial risks that are present from the use of online lending process, which could directly affect the overall economic stability. Moreover, the financial stability of the economy mainly declines due to the risks that are involved in the online lending process. The major financial risk presented from online lending process is depicted as follows.

Credit risk:

There is relevant credit risk involved in the online lending process, as borrowers that are unqualified for traditional loans mainly select the online lending process. Moreover, the online lending system has low requirements, where maximum of the borrowers are provided loans on high interest rates. This relevant accumulation of low credit rated borrowers could eventually increase risk of the online lending company, which in turn might raise the chance of credit default (Jagtiani and Lemieux 2017). Hence, the relevant credit risk could boost the financial risk, which could be boosted by the online process companies.

Government protection:

Moreover, from the evaluation of the government protection program it could be identified that the relevant online lending process does not get the protection. This relevant non-protection could eventually reduce the overall guarantee for the online lending process. Hence, the investments in the online lending process without government protection could result in high-risk situations (Malekipirbazari and Aksakalli 2015). Therefore, it could be identified that online lending process provides loans to borrowers with high risk and low credit rating, where the default chance of the loan is relevantly high. Therefore, the high risk could result in financial risk, which might affect the stock market.

High APR:

Moreover, the online process has high APR, which result in high cost loans and forces the borrowers to pay more interest on their borrowing. However, the high APR is mainly a risk, which is directly imposed on the capability of borrowers to support their financial obligations. This relevant imposing of higher interest rate increases the financial cost for individuals, which could lead to loan default. Freedman and Jin (2017) mentioned that us of high ARP could directly result in increased cost for the borrowers, which in turn might affect their ability to support their financial obligations.

Hidden fees and terms:

There are different types of hidden fees and terms, which could be identified that online lending process. This process could directly affect the overall financial cost of the borrowers, which in turn might increase their expenses. Bertay, Demirgüç-Kunt and Huizinga (2015) stated that high hidden fees and terms could directly increases expenses of the borrowers for both late and early payment of the loan. The online lending companies have different types of terms and rights, which could affect expenses of the borrowers. This hidden cost could force the borrowers to continue with high interest loans and in turn raise the relevant chance for expenses.

Increasing fraud risk:

There is relevant risk from fraud, which could directly have negative impact on the operations of the company. These adequate rising fraud and default of high interest bearing loans could also raise the problems for the financial sector. The high defaults in loan were the main reason behind the financial crisis of 2007, which could eventually increase the relevant risk from operations (Dell'Ariccia, Laeven and Suarez 2017).

This identified risk could directly have negative impact on the overall economy’s financial stability if the practise of marketplace lending substantially increases in future. This adequate risk could also directly affect the economy, where relevant problems could be raised, which in turn might affect the capital market. DeYoung et al. (2015) argued that increment in instability of the economy during 2008 led to the financial crisis, which nearly liquidated the financial sector of the whole world.

 

Depicting the relevant view on the statement “…they can weather a downturn because they do not own the loans they originate”:

From the overall evaluation of the article relevant view on the statement could be identified, which directly indicates the overall perception of online lending companies. The relevant statement directly indicates that online lending companies do not have any kind of obligations against the loans, as they do not own the relevant loans. This directly states that the overall loans originated by the online lending process are directly sold in the market in form of bonds and hedging products. Furthermore, adequate statement directly indicates that online lending companies mainly transfer the overall risk from them to other investors whose money is used to finance their activities (Mills and McCarthy 2014). The statement directly justifies the current condition of the online lending companies in US, which could be identified from the article.

Hence, from the evaluation of the article it could be identified that different financing companies have taken money from the market to support the overall operations. This relevant transfer of money from investors to the financing companies is directly depicting the overall statement. The statement further states that financial lenders such as Lending Club and OnDeck Capital directly raised adequate capital from the market to support its rising capital needs. There are many instances where different lenders have relevantly taken money from the market by providing attractive return from investment. Gonzalez and Loureiro (2014) mentioned that investors use the highly risky online lending process for the investment, as there is no more lucrative options provided currently in the market. Therefore, the online financing companies get all the adequate returns from investment, which could help in improving its operational feasibility.

Furthermore, seeing the rising trend Online lending process could eventually trigger a financial meltdown if adequate measures are not taken by the companies. The relevant statement is mainly conceiving a dangerous situation in which the current online lending process is increasing the risk of potential economic crises. The current situation of the online lending process is relatively in mess, which is directly affected conventional banking system. The rising default rates in online lending process are directly affecting the conventional banking system where adequate regulation needs to be imposed. Moreover, the financing means of individuals are relatively increasing, which is forcing the online lending market to increase the operational capability. In this context, Chaibi and Ftiti (2015) stated that operations conducted by the financing companies mainly increases the risk of insolvency due to acceptance of proposals from low credit rating borrowers.

Currently from the evaluation it could be understood that the online loan providing companies are using different types of financial products to generate the relevant capital for the operation. Moreover, the online company is selling the relevant loans to investors who are willing to invest in the booming market and increase the returned from investment. However, from the studies conducted in US, it is seen that online loan providing companies are charging high amount of interest, which is drastically increasing overall chance of default among borrowers. Therefore, the relevant statement directly support the actions that is currently being conducted buy all the online lending companies.

Depicting how online/marketplace lending practices within a regulatory framework, while providing some practical recommendations:

From the overall evaluation of the article it can be seen that there are different types of regulator actions that is being imposed on the online lending companies. The adequate regulation could eventually help in controlling the online lending process and reduce the chance of an economic crisis. Moreover, it is mainly identified that the rapid growth in online lending process is mainly due to the low impact of regulations which is faced by the conventional banks. This is the main reason, which is driving the overall growth in online lending place. However some of the regulations are being imposed in the online lending process, where the US Treasury Department directly issued a request for providing all the information on online lending companies.  Moreover, the Consumer Financial Protection Bureau has started accepting complaints regarding online lending companies, which is directly implicating that the government is taking active steps to ensure safety of the US citizens (Forbes.com 2017). Furthermore, the US government is currently involved in a court case which would help in changing the interest rate that is imposed by the online lending companies. This could eventually help in maintaining a certain slab for both interest rates and credit rating for protecting the investor’s money.

Therefore, adequate regulations needs to be imposed on the online lending companies which might help in improving the financial stability of the economy and reduce defaulters. The rising Interest rates that are imposed by the online lending companies and the evaluation of their financial report directly indicated the weak financial position. Hence, the US government needs to implement adequate regulations on the online lending company for reducing the risk from investment and complying with all the financial commitments. First of all the reduction in interest rate needs to be imposed, where adequate interest rates starting from loan amount to the time needs to be calculated. Is second resolution that needs to be imposed on the online lending companies is credit rating measure. The companies are lending money to individuals who have bad credit rating and are not able to repay the loan amount and interest to the company (Ft.com 2017). Therefore, adequate credit rating slab could eventually allow the online lending companies to select investors who have adequate credit rating and are reliable to pay the loan amount. Lastly, an adequate auditing needs to be conducted of all the online lending companies, as it might help identifying whether they are complying with all the regulations imposed by the US government.

 

References:

Acharya, V., Drechsler, I. and Schnabl, P., 2014. A pyrrhic victory? Bank bailouts and sovereign credit risk. The Journal of Finance, 69(6), pp.2689-2739.

Bertay, A.C., Demirgüç-Kunt, A. and Huizinga, H., 2015. Bank ownership and credit over the business cycle: Is lending by state banks less procyclical?. Journal of Banking & Finance, 50, pp.326-339.

Chaibi, H. and Ftiti, Z., 2015. Credit risk determinants: Evidence from a cross-country study. Research in international business and finance, 33, pp.1-16.

Dell'Ariccia, G., Laeven, L. and Suarez, G.A., 2017. Bank Leverage and Monetary Policy's Risk?Taking Channel: Evidence from the United States. the Journal of Finance, 72(2), pp.613-654.

DeYoung, R., Gron, A., Torna, G. and Winton, A., 2015. Risk overhang and loan portfolio decisions: small business loan supply before and during the financial crisis. The Journal of Finance, 70(6), pp.2451-2488.

Emekter, R., Tu, Y., Jirasakuldech, B. and Lu, M., 2015. Evaluating credit risk and loan performance in online Peer-to-Peer (P2P) lending. Applied Economics, 47(1), pp.54-70.

Everett, C.R., 2015. Group membership, relationship banking and loan default risk: the case of online social lending.

Forbes.com. (2017). Forbes Welcome. [online] Available at: https://www.forbes.com/sites/marcprosser/2016/04/11/regulation-online-marketplace-lending/#5deb25516f78 [Accessed 9 Oct. 2017].

Freedman, S. and Jin, G.Z., 2017. The information value of online social networks: lessons from peer-to-peer lending. International Journal of Industrial Organization, 51, pp.185-222.

Ft.com. (2017). Online lenders stuck on a hamster wheel . [online] Available at: https://www.ft.com/content/caf06b3e-548c-11e5-8642-453585f2cfcd [Accessed 9 Oct. 2017].

Gilchrist, S. and Mojon, B., 2014. Credit risk in the euro area. The Economic Journal.

Gonzalez, L. and Loureiro, Y.K., 2014. When can a photo increase credit? The impact of lender and borrower profiles on online peer-to-peer loans. Journal of Behavioral and Experimental Finance, 2, pp.44-58.

Guo, Y., Zhou, W., Luo, C., Liu, C. and Xiong, H., 2016. Instance-based credit risk assessment for investment decisions in P2P lending. European Journal of Operational Research, 249(2), pp.417-426.

Ingram, R.N., Littlewood, D. and Lau, A., Neobanx Technologies, Inc., 2013. System and method for assessing credit risk in an on-line lending environment. U.S. Patent 8,560,436.

Jagtiani, J. and Lemieux, C., 2017. Fintech Lending: Financial Inclusion, Risk Pricing, and Alternative Information.

Jiménez, G., Ongena, S., Peydró, J.L. and Saurina, J., 2014. Hazardous Times for Monetary Policy: What Do Twenty?Three Million Bank Loans Say About the Effects of Monetary Policy on Credit Risk?Taking?. Econometrica, 82(2), pp.463-505.

Lin, M., Prabhala, N.R. and Viswanathan, S., 2013. Judging borrowers by the company they keep: Friendship networks and information asymmetry in online peer-to-peer lending. Management Science, 59(1), pp.17-35.

Malekipirbazari, M. and Aksakalli, V., 2015. Risk assessment in social lending via random forests. Expert Systems with Applications, 42(10), pp.4621-4631.

Mills, K. and McCarthy, B., 2014. The state of small business lending: Credit access during the recovery and how technology may change the game.

Subrahmanyam, M.G., Tang, D.Y. and Wang, S.Q., 2014. Does the tail wag the dog?: The effect of credit default swaps on credit risk. The Review of Financial Studies, 27(10), pp.2927-2960.

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