Credit trends - 2021 update

While many financial players are investing heavily in transforming the credits domain, the financing products themselves have not changed significantly in the last few decades. Instead, innovation is mainly focused around digitizing and automating existing credit products and processes using modern techniques to better assess the credit risk.

In order to assess the latest credit trends, we start by asking the following "Why" question:

Why do customers go to a financial institution for a credit?

Simply put, we can say that credits serve two customer goals :

1. Financing a project, which you would normally not be able to finance yourself. A financial institution borrows the money and the customer repays over time. Typical examples are a consumer credit (e.g. a car loan) or a home mortgage loan for individuals or a mortgage-backed loan or business loan for businesses.
2. Solving a short-term liquidity gap, i.e. bridging a temporary lack of liquidity which can normally be reimbursed quite quickly. Typical examples are overdrafts or business lines of credit, credit cards, bridge loans or invoice financing/factoring. These are typically short-term loans - often revolving credits - which are repaid partially or fully upon a certain event, for example after salary receipt, payment of invoices or the sales of your home.

However credits can also be used in case borrowing from a financial institution is cheaper than using your own internal reserves (even if readily available). This is typically the case in the following three scenarios:

1. The individual or company is able to generate returns on their own money and assets which are higher than the cost of financing. For companies this can be because assets are reserved for acquisitions or investments, for a risk buffer (similar to capital buffers for solvency norms) or for distributing to shareholders in the form of dividend. For individuals this can be because of leverage, i.e. borrowed money is reinvested in securities.
2. A fiscal stimulus linked to a loan. Many countries allow to fiscally deduct the interests on loans, making lending more attractive than using internal reserves.
3. A third-party is paying the interests. Typical examples are deferred payments (i.e. the "Buy now, Pay Later" movement, with offerings like Klarna, Afterpay or Sezzle) or consumer credits offered by car manufacturers, electro shops and other merchants.

Depending on the customer segment, the underlying object/collateral, the duration of the credit and the type of loan (revolving versus installment), dozens of loan products have been invented to support these different types of financing objectives.

Noticeable trends in the credits market

What always comes back when looking at the main trends in the credits market, is that every step of a credit is being digitized and automated as much as possible, while at the same being more personalized.

This trend is accelerated by a multitude of Fintech players (neobanks and others) starting to also offer credits and thus increasing the competition. This increased competition leads to following more detailed evolutions:

• The pricing of a credit becomes more personalized. This leads to complex dynamic pricing models, potentially based on AI, which identify the highest price a customer is willing to pay, while also considering the risk (and costs/profitability) associated for the bank = risk-based pricing.
• More transparency on costs, but also on the decision process (explaining why a credit is refused) and on the servicing and incident management of credits (in case of reimbursement issues).
• Financing is become a more frictionless experience. People expect to get their financing whenever they want, wherever they want and with the lowest effort possible. This includes trends like hyper automation, increased digitization, embedded user journeys, multi-channel / omnichannel experience including cross-channel continuation, and improved UX experiences.
  In practice this means following evolutions:
  • Credit origination becomes more and more part of a third-party flow, instead of being originated on a bank’s website.
  • After a strong digitization of the credit origination flow, the servicing (like changing the feeding account, adapt credit conditions, early reimbursement…​) and incident management (like warning customers of missed payments, but also collection) also become more digitized. This will be further accelerated by certain automated advice-functionalities, like for example automatic suggestions to rewrite your credit etc.
  • A stronger digitization means applying new techniques, like dynamic questionnaires (potentially using AI techniques) to assess a credit application with a minimum set of questions, the possibility to save a draft demand (and continue later), digital identity management and digital signing (e.g. via Itsme in Belgium), OCR processing of the provided proof documents, instant scoring and decisioning, automatic retrieval of high quality (risk assessment) data from external data providers, new ways to reimburse a credit (like Direct Debit, manual wire transfer, credit card or PSD2 payment initiation) etc.
  • Third-parties involved in a financing solution, like for example another bank to setup a Direct Debit instruction for the feeding account, the customer’s accountant or a notary​ are also becoming more integrated in a digital way.
• A noticeable trend is also the ambition for being more ESG (Environment, Social and Corporate Governance) sensitive. This means promoting ecological investments (like ecological home renovations or industries doing "green" investments), but also acting more corporate-responsibly, i.e. avoid putting people with no reimbursement capabilities in debt, even if those loans would be profitable. This higher responsibility should be done by rejecting certain credit demands, but also by financially educating customers via contextual help, simulations, educational videos, chatbots etc.
  At the same time, this also includes initiatives to increase financial inclusiveness by a more forward-looking scoring , instead of purely looking at someone’s past credit record/history, which can be hard or even impossible to escape. These new scoring techniques take into account new scoring elements (like social media data, phone record data, PSD2 data…​) and can help people get a loan, even if they had reimbursement issues in the past.
  Finally this trend also leads to more democratization of financing products, i.e. products which were only available in the past for wealthy clients now become available to the masses, like the democratization of personal leasing constructions or Lombard loans with a securities portfolio as collateral (cfr. Capilever Lombard² / LABL product)
• There is also a tendency for hyper-personalization and customer-centricity, i.e. rather than starting from a product-centric approach, credit institutions start from the customer needs, allowing to propose the best financing solution for the customer.
• Banks and other credit institutions have also learned that in this digital, interconnected world partnerships are crucial. In the credit space this consists of partnerships in different domains:
  • Partnerships in selling the standard bank credits, for example through embedded financing on product websites (like car dealers, travel agencies etc.) or via financing at point-of-sale (allowing buyers to finance even a small acquisition via a number of small payments at 0% or a small interest), but also via credit comparators (like Bankrate.com, Nerdwallet, Comparethemarket.com, Finder, Credible, TopCompare, Spaargids.be, Hypotheekwinkel, Bankshopper etc.​). This gives an interesting potential for Fintechs, as incumbent banks can less profit of their brand recognition and large branch network.
  • Partnerships with tech companies, who want to offer a specific financing solution, without wanting to take care of all necessary regulations. For example the Bigtech companies like Apple, Google and Amazon are all starting to offer specific credit solutions, by partnering with banks: Amazon loan for working capital loan funds or Apple Credit Card both in partnership with Goldman Sachs or Google with Stanford Federal Credit Union.
  • Partnerships with all kinds of SaaS and BaaS companies to offer the new technologies more efficiently and outsource non-differentiating or specialized tasks, like identity verification (like Jumio, Veriff, iDenfy, Trulioo), proof document capturing and validating (like Contract.fit), scoring (like A4E, Algoan, GiniMachine​), assessing the quality and value of collaterals (like Rockestate) etc.
  • Data providers to provide good quality data sets to assess the credit risk of a customer (like World-Check, Bureau Van Dijk - Moody’s Analytis), Graydon, CrediWeb, Creditsafe, North Data, Bisnode, Infocredit Group, Probe Info, ICP etc.)
  • Partnerships with notaries (e.g. e-Notary) and accountants

Evolutions for the underlying credit products

Still, all those trends change very little to the underlying financing products and as such the flexibility and control customers have over their financing. As such we believe that in the coming years we will also see an evolution where the underlying financing products will become more adaptable and more focused on the specific needs of a customer, as indicated above with the "Why" question.
Some examples, which are currently still niche products, but might gain importance in the coming years are:

• Revenue share loans (cfr blog), which are loans for which the monthly repayment is automatically adjusted to the company’s revenues (i.e. a fixed percentage of their monthly revenue is paid back to investors). As a result, such a loan has a variable duration, which will vary with the business performance. This is an interesting construction to get investors with aligned objectives, without necessarily giving away equity.
• Capilever FLEX contract, which is a combination of a long-term credit and investment product, aiming to balance out the short- and long-term imbalances in a house-hold budget.
• A much more flexible way of reimbursing the credit, i.e. instead of a fixed monthly payment, the bank could allow a flexible repayment (cfr blog).
• Work with "rule-based money" for the paid-out money where the money is deposited by the bank on a specific account, which is not accessible by the customer, but instead automatically reimburses expenses occurring on the customer’s current account of a specific type (specific sector, location, specific merchant etc.). This way the bank can impose that the money is spent for a specific purpose, which also reduces the credit risk for the bank (thus allowing to reduce the pricing).
• New credit linked insurance products, which pay the monthly reimbursement for you, when you are ill or lost your job, or which handle the credit refinancing in case of a divorce.

These trends are already happening in the industry, but not everywhere at the same speed. Depending on the country/region and individual credit institutions, various degrees of these digitalization and personalization steps are being reached. However, credit institution that want to stay competitive and relevant in the future, should invest now in the above-described trends.