Lessons from China’s Peer-to-Peer Lending Boom

July 5, 2017

By Nicholas Borst and Sean Creehan

Shanghai skyline with overlay of network mesh

In this episode of our series on financial technology, we sat down with Ning Tang, founder and CEO of CreditEase. Ning has been a leader in the development of China’s peer-to-peer (P2P) lending industry and has a unique perspective on the development of fintech worldwide.

Some of the key takeaways from our conversation with Ning include:

  • P2P lending in China has helped borrowers overlooked by traditional financial institutions.
  • Many Chinese fintech firms were initially reluctant to share information, but data sharing has turned out to be a benefit for the entire industry.
  • As the industry has matured, banks have become essential partners for P2P firms.
  • A combination of traditional and alternative data sources work best for making credit assessments.

Transcript

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Nicholas Borst:

Welcome to Pacific Exchanges, a podcast from the Federal Reserve Bank of San Francisco. I’m Nick Borst.

Sean Creehan:

And I’m Sean Creehan. We’re analysts in the Country Analysis Unit here at the San Francisco Fed. Our job is to monitor financial sector developments in Asia. And, as part of the Feds public mission, share information and analysis with listeners like you. Today, we continue our series on fintech in Asia, looking at the new and innovative technologies that are shaping finance in the region.

Ning Tang:

Banks and fintech companies, alternative lending companies, they are complimentary to each another and together they make China’s financial system more comprehensive.

Nicholas Borst:

In today’s episode, we sat down with Ning Tang, founder and CEO of CreditEase, one of China’s earliest and largest fintech companies. We invited Ning to speak with us about why fintech is developing so rapidly in China, the potential for marketplace lending to improve access to finance for underserved groups, and the trends he sees shaping fintech both in China and the rest of the world for years to come.

Sean Creehan:

So, we’ve talked to a number of regulators and policy makers in this series so far, but it was great today to hear from someone running one of the largest fintech companies in China. I was particularly interested to hear Ning talk about the importance of the traditional firms like banks to company’s own operations. He also gets to the value that Chinese peer-to-peer lenders have found in sharing alternative credit data amongst themselves, given the lack of mature credit ratings in the sectors that they’re lending to. So, let’s get to our conversation with Ning.

Nicholas Borst:

Ning, thank you so much for joining us today. China appears to be at the forefront of the global fintech revolution. What are the main factors why fintech is developing so quickly in China?

Ning Tang:

I think several key drivers. One is that compared with the US market, which is more mature, China is still developing. I mean China’s financial system, our credit system. So, the demand is bigger in China, like from small business owners, from micro-entrepreneurs, from consumers, and rural people. So, that’s one.

Secondly, China has adopted technologies such as mobile internet much earlier than the US. For example, our listed subsidiary, Yirendai had this mobile app for consumer borrowing, five, six years ago. The Lending Club and the like recently had this mobile app for US consumers. So, that’s another driver.

Also, the regulators have played a very important and positive role in promoting market development in a healthy, stable way. For example, they incorporated market best practices from pioneers, how to do innovative models best.

Nicholas Borst:

You mentioned that your company and others were fast movers in terms of putting financial services on a mobile phone. Is that because China sort of leapfrogged some of the older financial technologies, and went straight to using mobile phones for financial transactions?

Ning Tang:

Yeah, I think we can say that. Actually, for many people who never used a fixed line, a phone, they moved directly to mobile phone. They didn’t even try a laptop, internet, directly moved it to mobile internet. The mobile internet world offers a much richer data information, which helps credit evaluation and consumer profiling in a world where traditional financial data and the credit data is still lacking.

Sean Creehan:

So you’re kind of alluding to that here, but despite China’s very impressive three-plus decades of rapid economic growth and financial development, there still have been some sectors under-served by the financial system. Some small businesses, agricultural enterprises, consumers. How does fintech and the sorts of services that your companies are offering, how can fintech help?

Ning Tang:

Talking about China’s fintech industry landscape, there are two sectors that are more advanced, relatively more mature, namely payment and marketplace lending. Other sectors like crowdfunding, robo-advisors, insurance tech, blockchain, and so on are still developing. They are going through what payment and marketplace lending have gone through in the past ten plus years. But, in my view, they are also very promising. All these sectors are helping the underserved population in different ways. For example, marketplace lending platforms help small businesses and micro-entrepreneurs, and the consumers access financing in a more friendly, more cost efficient way. Crowdfunding, for example, helps startup companies and individual investors get connected to each other more easily; and also to do angel investment to work better. Robo-advisor helps middle class and mass affluent Chinese investors access a very comprehensive…like allocation solution. In the past, not accessible at all by this segment. It’s the high-end client solution, but now it’s available to mass affluent. So, you see technology is indeed making financial services better.

Sean Creehan:

To what extent, you started Credit Ease 11 years ago at a time where interest rates were controlled in the Chinese financial system. To what extent do you see some of the growth on the demand side for people to invest as providing a more attractive yield than they were seeing in the formal banking system?

Ning Tang:

I think people, investors, have been looking for more investment opportunities. P2P lending has been a great investment opportunity for them. People can invest in a very diversified way, meaning like lending to many small loans, individuals, and micro-entrepreneurs. It’s a rather diversified portfolio of loan assets. Also, investors, individual investors I mean, have been looking for wealth management help. What they really need is asset allocation, which is a very new concept to Chinese investors. We help them through wealth management operations, over 2,000 financial advisors on the ground, as well as a robo-advisor accessing the middle class, mass affluent segment.

Nicholas Borst:

Ning, could you tell us a little bit about how the alternative lending sector in China has developed? Does it make use of new sources of information to perform credit ratings? Do you use financial technology to bring down the price of making loans where many banks would say, “Oh, making such a small loan to a customer without a credit history, that’s not a good business for us;” but it seems like fintech lenders have found a way to actually make that work.

Ning Tang:

I think in China, traditionally, banks looked at collateral, a physical good as collateral. Many small entrepreneurs, small businesses don’t have such physical goods. They have intangible value in their data, electronic data. For instance, we have a partnership with eBay, helping Chinese merchants who actually sell goods to US consumers, this segment access financing. They have no physical goods, assets, as collateral, but their data is very valuable. So, we work with eBay and their merchants. Whenever they have a financing need, yet they can provide their data to us, and our credit evaluation engine can real-time assess a credit quality, and match that need with investor money. This is very cool. Many such needs are time-sensitive. It cannot wait for several weeks to allow the borrower to go to a branch office and submit tons of documentation, wait for several weeks. No, that’s not possible.

Nicholas Borst:

Is there an effort underway in China to create an SME credit bureau? Or to make things easier for small borrowers to have a credit score?

Ning Tang:

I think it’s upcoming. There has been such a great effort from the regulators and also from industry practitioners. For instance, two years ago, we started an initiative to contribute our data to the data sharing mechanism system, because of CreditEase Inclusive Finance, that’s our lending business, is a leader in consumer finance and alternative lending. Throughout the years, we’ve accumulated a lot of data. But if it can be used by the whole industry, that’s very helpful, because that can avoid consumer over indebtedness. Currently, we do not know very well, one applicant, one person, is trying to borrow from multiple, many institutions, right? We need to know better and to do better risk management.

We started this initiative by contributing our data, making our data accessible by all industry players. It was a very bold move and some colleagues complained to me, “Why are we do that?” Right? It’s like having others look at our data. But, our philosophy is that by doing so, we create industry win-win…probably other players win a little bit more than us, but it’s a win-win situation for the whole industry.

Nicholas Borst:

Is that pretty wide spread now? Are a lot of fintech companies in China sharing information?

Ning Tang:

Yes. After we took the first step, one more companies that took notice, some tried first by just using our data first. Then they realized that this is indeed a great system. More and more joined, and now we have over 500 industry players. All kinds of players, like banks, insurance companies, also P2P marketplace lenders, alternative lenders, and all exchange data in this system. At the same time, I expect that the Chinese regulators will step up their effort to create this more comprehensive national credit bureau system, and grant credit bureau licenses to credit bureaus in coming years.

Sean Creehan:

So, you mentioned regulators. Could you talk a little bit about the role of regulators, and the evolution of alternative lending in China? To what extent have they encouraged it? To what extent are they now issuing more guidelines? What’s their role?

Ning Tang:

I think as I mentioned, China’s fintech industry is leading in many aspects in the world. A key driver is that the regulators have played a very positive, conducive role in making that happen. They understand that there are a lot of unfulfilled needs in China’s financial system. They also understand that technology and business model innovations can help China do a better catch-up job, potentially doing some leap frog to make financial services more accessible, more cost efficient, more friendly.

They listened very carefully to what market practitioners and participants say about different innovations. They made it very clear early on, although there wasn’t any paperwork, any explicit regulation clauses for certain types of innovation, there have been very clear guidelines of what can be done, what cannot be done, what’s the kind of deadline, so on.

For example, in marketplace lending, the regulators made it very clear early on, it’s actually a peer-to-peer like relationship. It’s not like a banking relationship where people make deposits. And also, they learned from market practitioners, they incorporated, for example, the model where P2P marketplace lenders work with banks, where a bank acts as a custodian partners. So that client funds, like a borrower-lender funds go into a bank’s custodian system separate from the company’s money. So that way the entrepreneur, the marketplace lending company, cannot just take client funds and run away.

About one year ago, we started to have more official regulations on marketplace lending, on payment, and also other sectors of fintech. But more for marketplace lending and payment. These two more mature sectors. I expect that other sectors, like crowdfunding, robo-advisor, insurance tech, and so on, will go through a similar path in coming years. Meaning like the industry will work very well with the regulators creating a healthy and robust industry landscape.

Sean Creehan:

You mentioned few risks there. You talked about the custody of funds as an issue. I’m wondering with the use of alternative data, one issue that people talk about here is could you have an algorithm that makes a lending decision and perhaps discriminates in favor of one group, or against another? I’m wondering, is that an issue in China? Thinking about the use of alternative data, and how different groups might be impacted?

Ning Tang:

I think several considerations in that regard. One is that we need to protect consumer data very well, paying close attention to consumer privacy. When we do like online lending, utilizing alternative data sources, we ask for explicit consumer consent. The consumer is the owner of his or her data. This is very important. You see that in many cases, in many developing markets, particularly when it involves the younger generation, people tend to be more willing to share. I think that’s because of several reasons.

One is that many such markets don’t yet have a robust credit bureau, a credit infrastructure. Such alternative data are out there to compensate for the lack of traditional financial credit data, which is helpful in allowing those under-served population to have access to financing. On the other hand, I think as time goes, consumers will become more and more aware that their privacy should be better protected. In that sense, I think there will be more rules coming out on how to do that.

When we utilize alternative data, our experience is that those so-called internet data, big data sources, are not helpful on a standalone basis that much. They have to work together with traditional financial and credit data. They can be quite helpful when consumer profiling is concerned. Or when we do certain anti-fraud measures. They can be quite helpful. But, when we do overall credit risk assessment, what we find is that the combination of traditional, financial, and credit data, and such big data, internet data when they work together we do a better job.

Nicholas Borst:

Ning, you mentioned that in some respects, fintech companies in China are starting to rely on banks for providing services like custodian services. Can you describe what is overall been the reaction of banks in China to all the growth of the fintech sector? Because there’s elements of cooperation as you mentioned, but there’s also a bit of competition; and then we see some Chinese banks are actually investing in fintech companies. So, could you give us a sense of how, in general, Chinese banks have reacted to this?

Ning Tang:

Several thoughts. One is that I think generally speaking, banks and fintech companies, alternative lending companies, they are complimentary to each other. Together, they make China’s financial system more comprehensive. I’m not of the view that one type of organization should do like cover all. Like banks, for example, serving all types of financial needs, like for big corporations. From big corporations to small, micro-businesses, and individuals, rural people. Just doesn’t make sense.

I think in the comprehensive financial system, there should be different players. Different types of players playing different roles, serving different segments, different needs. In that sense, marketplace lenders, so on, can work with banks very well.

There are several types of cooperation in China and in the world. One is that banks can become a custodian for marketplace lenders, so that client funds go into a banking system, and the client’s identification get very clear. No…this kind of fraud, or taking money away, running away, by marketplace lenders. Chinese banks have started to do that.

Another type of cooperation is that banks and other financial institutions come to marketplace lending platforms as lenders. Actually, in our earlier years, we couldn’t get banks to do that. The reason, in 2006, CreditEase invented China’s P2P marketplace lending model was because I couldn’t find banks willing to lend to a group of vocational school students for their tuition and need. One person only like 1,000 US dollars. Banks were not in the position to do that. We said, “What to do?” Then we invented this peer-to-peer model so that individuals could extend credit to individuals. But after we had done a pretty good job, and maintained very good credit quality, banks and other financial institutions like trust companies, started to notice that this was a very attractive asset class for them. They came back to us and became lenders on the platform.

Nicholas Borst:

You mentioned before that, both in China and the US, financial institutions are engaging in marketplace lending. At least from the statistics I’ve seen that in the case of the US, financial institutions are now the largest part of marketplace lending, whereas in China, it’s still mostly peer-to-peer. What do you think is behind that difference? Why has marketplace lending in China stayed more peer-to-peer while its changed in the US?

Ning Tang:

I think one reason is that Chinese individual retail investors have a huge appetite for attractive investment opportunities. Or to say their investment alternatives are still limited. But that’s a good thing. For instance, one year ago, about one year ago, in the US, there was this kind of problem on the funding side for marketplace lender. They had been heavily financed by hedge funds. Many hedge funds had been on marketplace lending platforms doing lending. Hedge funds, due to poor performance in other categories had to withdraw from marketplace lending space which caused quite some trouble for marketplace lenders to grow well on a consistent basis.

In China, there is a more, in my view, healthy mix of investors. We have retail investors from small, to a mid, to a big investors. We also have banks, consumer finance companies, trust companies, and we also have an emerging securitization market. Chinese marketplace lending platforms have a more diversified funding base, which is quite helpful to this business model.

We see that in the US marketplace lenders are going back to a more diversified funding base. We see that Lending Club recently announced that their retail investor percentage on the platform is going up. Also, they work with different, many kinds of financial institutions, not just the hedge funds. Right? They have people here in marketplace lending, have banks, insurance companies, 401K accounts for example` providing funding. I see more diversified funding base for US marketplace lenders as well.

Sean Creehan:

I know before you started CreditEase, you were an angel investor in China. Beyond your current operating activities, CreditEase has also active as in investor in looking at new, developing trends around the world. I’m wondering if you could tell us, in your view, what are the most exciting trends in fintech. Also, connected to that, you’ve already alluded to this, but what do you see the world could learn from some of the fintech developments in China?

Ning Tang:

Talking about wealth management, we believe that’s another huge thing in China. Another innovation frontier because in the past, Chinese investors didn’t quite have this concept. They were more doing a single product purchase, or investment product purchase buying, or investing in a single opportunities. Many investor behaviors can be quite speculative and short-term.

On how to make this long term investing a value investing concept well known in China, we’ve been doing a tremendous amount of education work. To that end, what we learned is that investor education work can be done through utilizing technology in a much better way. When we talk about investor education, five, ten, fifteen years ago, it’s about some classroom way, seminar way; where one instructor talking about the (Warren) Buffet investment way, so on. Today, we can do in a very digital way. We make the investor education process very fun, very interactive, very interesting; so people naturally like to learn about finance, which is traditionally a very complex and potentially boring subject matter.

Talking about fintech really making an investment, like angel investment, a VC investment, better; we have a leading service in crowdfunding. I was an angel investor before CreditEase, so it wasn’t very easy. Because as an individual, while making investments, I had to manage the whole process. Sometimes if I misplaced a certain paperwork, it was a lot of headache. Now, we utilize this digital platform to help Chinese angel investors do a better job sourcing projects, and managing portfolio companies through a lifetime cycle. Also, helping startup companies find financing. Also human capital, they can do recruiting within our network. They can share with each other best practices in innovation. I expect that crowdfunding will a play important role in coming five, ten years when China is seeing more innovation and embracing the so-called new economy.

Sean Creehan:

So when you come here to Silicon Valley, I know you come here often, and you’re looking at international business opportunities, are you thinking about applying your insights and model overseas? Or are you more interested in learning from what’s going on elsewhere, and how you can apply that back to your operations in China?

Ning Tang:

Actually both. For example, in our alternative asset management business, we have a fintech equity investment fund. That fund leverages CreditEase operating capability and past 11 years of history to invest globally in emerging fintech companies, in all fintech sectors we just covered. In the past 12 month, we’ve made 12 investments outside of China. This fintech fund also invest in China. I’m talking about out of China investment, and majority of them are in the US. In payment, in lending, in insurance tech, so on. We are very positive about US fintech companies.

We also have a credit fund, buying loan assets from US marketplace lenders. We did four transactions last year from Avant, Prosper, LendingHome, and OnDeck. Chinese investors and fintech companies are quite familiar with this asset class. In that way, we leverage our existing capability.

On the other hand, it’s very refreshing for me to be here each time, to see how New York and Silicon Valley fintech companies are doing. Their innovations and there’s also a lot of learning for me.

Nicholas Borst:

Touching on what you just talked about, what are the biggest differences you’ve seen between the Chinese tech world and Silicon Valley and New York; in terms of culture, approach to disruption, innovation? Can you give us a sense of the differences between the two, because you’re quite familiar with both.

Ning Tang:

It’s very interesting. I was in New York last week attending a fintech forum. Actually, I sent a note to my colleagues and friends back in China. I said that what I discovered was that New York based fintech companies, their founders and teams are much older than the Silicon Valley fintech team people. Even in their 50s or 60s. I guess the reason is that more New York based fintech companies are in B2B space, so we need some veterans who are very experienced in financial services working with giant financial institutions and so on.

But, in Silicon Valley, entrepreneurs, teams, are much younger. I think that has a lot to do with them serving consumers more. So more of a P2C model, consumer internet, consumer financial services. I think the right…I believe the right model, that’s also our practice in China, is to really well integrate two traditionally different types of people; like finance people, people with rigorous risk management training and finance acumen, and the other group of people are technology experts, internet, mobile internet, big data experts, who are obsessed with consumer satisfaction, speed. To let these two groups of people work very nicely, which is very challenging. We always say that these two groups of people are like one group from Mars, the other from other planets. It’s not easy.

When we talk about finance, right? When we do innovation in finance, when we launch new product in finance, we do like six-month, even 12-month experiment to see how credit quality works out, so on. When we talk about the internet world, certain changes have to happen same day. It’s very different mentalities or how to let these two groups of people understand each other, appreciate each other, and work effectively with each other. I think that’s a very big challenge. We’ve put a lot of thought into that.

I think now in China at CreditEase, we do a better job. We let the two groups of people teach other. One group is responsible for the other group’s learning of the new subject matter, and we let them jointly be responsible for a given outcome. That way work together more effectively.

Nicholas Borst:

Great. Well thank you so much for joining us today.

Ning Tang:

Thank you.

Sean Creehan:

Thanks, Ning.

Nicholas Borst:

We hope you enjoyed today’s conversation with Ning. For more episodes like this, you can find us on iTunes, Google Play, and Stitcher. For even more content, look up our Pacific Exchange Blog, available at frbsf.org. Thanks for joining.