Should Spain go to Zopa?

20th June 2012

The surging yields on 10-year Spanish bonds are an indication of collapsing confidence in European Union plans to shore up the Spanish banking system, according to The Daily Telegraph.

Savers and investors disillusioned with the traditional banking system, and looking for higher rates on their money, might consider bypassing the banks altogether.

Few of us have balances big enough to bail out the Spanish economy, but when ordinary people lend to other individuals, borrowers and lenders can both get a much better deal than they might from a high-street bank.

In an eBay approach to loans, websites including Zopa and RateSetter offer a market place for "peer-to-peer" lending, matching up people with money to spare with those who want to borrow. Meanwhile websites including Funding Circle and CrowdCube specialise in business loans.

Backing for bypassing the banks

Recently, the Bank of England and the government have been queuing up to praise the minnows of peer-to-peer lending compared to the monolithic mainstream banks.

Andrew Haldane, an executive director at the Bank of England and member of the Financial Policy Committee, compared the potential for these emerging businesses to Google.

Haldane declared that "the banking middle men may in time become the surplus links in the chain".

He said: "There is no reason why end-savers and end-investors cannot connect directly. Where music and publishing have led, finance can follow". Haldane considered that the "disintermediated model of finance" could become a more realistic possibility.

The government is also due to channel £100 million to entrepreneurs and small businesses through alternative lending channels, including peer-to-peer lenders, as reported by Wired.

Business secretary Vince Cable said: "As businesses are continuing to struggle to get credit from their banks, developing alternative lending channels is essential so firms are less reliant on banks."

More bang for your buck with a peer-to-peer lender…

The momentum behind peer-to-peer lending is growing, with loans recently topping £250 million, according to the BBC.

Market leader Zopa, founded in 2005, describes the benefit for borrowers as paying an interest rate around 20% cheaper than they might get from a bank. Typical annual percentage rates (APRs) on loans from £1,000 up to a maximum of £15,000 run at around 7.3%, with no early repayment charges.

For lenders, the attraction is earning a substantially higher return than paid on a savings account. According to Zopa, lenders earn 5.5% a year on average, even after deducting the 1% paid to Zopa and allowing for a 0.5% default rate.

Zopa vets borrowers according to strict criteria based on credit records and affordability, divides them into five categories of risk, and lets lenders choose the degree of risk. The lower the risk, the lower the interest rate you can expect to charge for lending your money.

The money is split into £10 packets, so for example someone lending £500 would see their money split 50 different borrowers, spreading the risk.

…but the money is not as safe as stashed in a savings account

Unlike a savings account however, your money is not protected by the Financial Services Compensation Scheme, which covers up to £85,000 per saver should your bank go bust.

However, Zopa points out that the legal contracts are drawn up directly between lenders and borrowers, and would continue to apply even if the website itself went bankrupt.

On the business lending side, Samir Desai, chief executive and co-founder of Funding Circle described the risks involved in the Observer.

Desai said: "If you are lending money to a business you are taking a direct contract with that business. If the underlying company goes bust you could lose your money.

"It's much more like investing in corporate bonds or shares, rather than putting your savings into a bank. It's not a zero-risk product."


More on Mindful Money:

The rise of peer-to-peer lending

Banking 2.0: The future of financial services

Shadow banking: Disintermediation could be disastrous

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