Peer-to-peer lending has exploded in China more than in any other country, according to Martin Chorzempa, who has been working for the past two years on a book on P2P businesses in China that he expects to be published by the end of the year.
P2P lending businesses have proliferated in the past six years, initially encouraged by the Chinese government as another outlet to infuse money into the economy following a 2009 government fiscal stimulus.
In the past year, however, they have come under increased government scrutiny because authorities fear they could destabilize the economy if left unregulated, said Chorzempa, who is finishing up a Masters at the Harvard Kennedy School and will be working at the Peterson Institute for International Economics this summer.
Yiqian Funding, a company claiming to have 300 branch offices throughout China, is one of the companies that has felt the crunch of the increased government interest. A posting on its website acknowledges that at least two offices have come under investigation and had assets frozen.
Dan Liu, an owner of Founders Group International, which owns 22 golf courses and other properties and businesses on the Grand Strand, is involved in Yiqian and in dealing with that company’s financial concerns.
P2P companies are part of the nontraditional lending market that has recently arisen in China, known as the shadow banking industry, and that entire industry – not just P2P businesses – has come under increased scrutiny, Chorzempa said. The industry includes financial businesses such as hedge funds, trust funds and wealth management companies.
P2P companies provide money to borrowers and act as an intermediary between the borrower and either individual or institutional investors hoping to make a profit on the loans. The P2P businesses connect the two online. The third-party investors take on the loan risk, though borrowers only interact with the P2P companies for acquisition and repayment of the loan.
Chorzempa said there was an announcement within the past few weeks that there is now a moratorium in China on new P2P businesses. In addition, more regulation has been proposed over the past few months and is being considered.
The rise of P2P
Much of the lending in China over the decades of communist rule has been through state-owned banks that have often focused on state-owned borrowers – often large companies and enterprises – and the government has controlled the savings and lending interest rates.
Chorzempa said the term “financial repression” has been used to describe the country’s banking history.
A 2008 financial crisis that hit China and much of the world, and the subsequent Chinese fiscal stimulus in 2009, changed policies and the face of lending in China, Chorzempa said.
He said the government began to allow a liberalization of interest rates, permitting financial institutions to set them more freely based on the market.
The government also allowed the introduction of some private banks, and the shadow banking industry arose and has flourished despite increasing regulations on many lending models other than P2P, according to Chorzempa.
He said the rise of P2P companies has been aided by the Chinese government’s encouragement of start-up internet and e-commerce businesses.
P2P companies cater to and bring together a pair of needy customers in the country of more than 1.35 billion people: small business hopefuls who have traditionally been overlooked for loans from state-owned banks, and investors who are skittish of a Chinese stock market that is considered more volatile than Wall Street.
“There’s a large void in the lending market for P2P businesses to step into on both sides, the borrowing and the investing,” Chorzempa said.
He estimates there are a few thousand P2P lenders in China, and believes many are quite trustworthy. “Any time you have that many, and many of them are small, and there is low regulation you’re going to have problems,” he said. “But it does have a lot of positive potential for China’s financial development.”
P2P lending exists in the U.S. and United Kingdom, but on a much smaller scale than it does in China, Chorzempa said.
According to a January article in The Economist, outstanding P2P credit in China rose more than tenfold over the past two years, from $4.7 billion at the start of 2014 to $65.9 billion at the end of 2015.
Chinese P2P firms that are larger than Yiqian have started going public.
Yirendai, the consumer arm of P2P lender CreditEase, became the third P2P company in the world to go public, and the first Chinese financial technology firm to go public abroad, listing on the New York Stock Exchange in December with an initial valuation of around $585 million.
In January, Chinese P2P lender Lufax completed a fundraising round that valued it at $18.5 billion, setting it up for an anticipated initial public offering as early as the second half of this year. Lufax could raise as much as $5 billion from its IPO, the Wall Street Journal reported Jan. 26, citing people familiar with the deal.
Chorzempa said the Chinese government has recently increased its scrutiny of shadow banking and P2P companies for two primary reasons in addition to its general crackdown on corruption under president Xi Jinping.
Chorzempa said P2P lenders played a role in an influx of borrowed money being invested in the stock market, which the government deemed detrimental to stability and may have contributed to a stock market plummet last year.
The second reason is the case of Ezubao, which was one of the country’s largest P2P businesses. State media reports in China accuse the business of bilking investors out of more than $7.6 billion by operating as a Ponzi scheme, offering fake investment opportunities to its nearly one million investors.
The government is also reportedly concerned about borrowers entering the real estate and housing markets with money attained through P2P lenders, using the U.S. housing market crash from 2007-10 as an illustration. A glut of bad loans in a freewheeling lending market resulted in defaults and foreclosures that contributed to the crash.
The Economist magazine cited Online Lending House, a financial technology industry website, in stating that nearly a third of all Chinese P2P lenders (1,263 out of 3,858) were having difficulties by the end of 2015. The site classified them according to the nature of their troubles: halted operations, disputes, frozen withdrawals or absconded operators. Online Lending House counted 266 P2P bosses that fled in the final six months of 2015.
New regulations may be forthcoming for P2P businesses in China.
According to Chorzempa, China’s State Council issued a proposal last summer creating principles for regulation that would give responsibility of enforcement to the China Banking Regulatory Commission. In December, the banking regulator issued a draft of regulations for comment that would require all P2P loans to go through banking industry custodians.
If the bank custodian requirement is adopted, Chorzempa said P2P companies would have 18 months to begin working with a bank, and some have already begun the practice. “It’s a way to show they’re pretty safe,” Chorzempa said.
P2P in the U.S.
LendingClub Corp., which is headquartered in San Francisco and went public late last year, is considered the largest P2P company in the U.S. and calls itself the world’s largest online credit marketplace. Its chief domestic competitor is likely Prosper Marketplace.
LendingClub claims to have facilitated nearly $2.58 billion in loans in the final quarter of 2015, bringing its total from its inception in 2007 through 2015 to nearly $16 billion, with more than $100 million borrowed in the Carolinas.
LendingClub has shown that P2P scandals aren’t limited to China.
The company announced May 6 the resignation of Chairman and CEO Renaud Laplanche and resignation or termination of two other senior managers following an internal review of the sales of $22 million in near-prime loans in March and April to a single investor, in breach of the investor’s instructions.
LendingClub offers personal loans up to $40,000 and business loans up to $300,000, with average interest rates between 12 and 15 percent, according to company news releases. Many individual borrowers use the funds to consolidate higher interest credit card debt.
The company claims investors providing funds for loans have earned average net returns of 5.23 to 8.82 percent.
Loan applicants are graded A to G, with interest rates ranging from approximately 7.25 percent to 25.75 percent, and investors can choose which grade of borrowers they want to invest in and how many loans they want their investment spread over, with minimum investments in each loan of $25.
LendingClub claims 99.9 percent of its investors who diversified with 100 or more notes of relatively equal size have realized positive returns.
P2P By The Numbers
▪ $65.9 billion — outstanding P2P credit in China at the end of 2015 according to an article in The Economist
▪ Nearly 4,000 — estimated number of P2P companies in China
▪ $7.6 billion — estimated amount allegedly bilked from investors by P2P company Ezubao
▪ 30 percent — approximate percentage of Chinese P2P companies experiencing difficulties at the end of 2015, according to financial technology industry website Online Lending House
▪ $2.58 billion — amount of loans facilitated by U.S. company LendingClub in the last quarter of 2015
▪ $100 million — amount borrowed from LendingClub in the Carolinas from 2007-15