Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 255

Bank limitations create opportunities for non-bank lenders

Since the GFC, bank capital levels and the number of bank regulations have skyrocketed in amount and impact. The unquestionable thrust of Basel III has been for global banks to massively increase capital, reduce leverage, limit risk-taking behaviour, and adhere to a far more stringent set of banking regulations. Almost 10 years on since the GFC, much has been achieved.

These developments are a significant positive for debt investors, as the bigger the equity capital buffer, the more protection for debt investors further up the capital structure. Some offshore banks now have almost three times the capital from pre-GFC levels!

Bank stocks have significantly underperformed the broader market in recent times and much has been written about the persistent fall in return on equity (ROE). Given the increase in capital and limits put on riskier business lines, this is no surprise.

The fallout from the Royal Commission will undoubtedly see a further reduction in risk-taking appetite and yet more regulatory burden placed on the banks, continuing the trend of lower risk, higher capital and lower ROEs.

Winners and losers from new bank regulations

Small and medium sized enterprises (SMEs) are the lifeblood of an economy, but given the changes to bank regulations the sector is increasingly a ‘loser’. In Australia, SMEs employ around 70% of the workforce and produce around 55% of business economic activity. However, two key changes continue to push SMEs out of the bank lending market:

1. Cost - under Basel III, banks must hold higher levels of capital against SME lending, including low-risk loans backed by residential or commercial property. This makes lending to SMEs more ‘expensive’ for the banks, and hence they pass the cost onto the SME borrowers.

2. Time – SMEs often require expedited funding. However, the ever-growing level of regulation and compliance that bank officers must comply with results in turnaround times that are typically weeks or even months. Even the highest quality loan application takes time to go through the process.

For example, if a clothing retailer is offered a 30% discount on the usual price by a wholesale supplier on Thursday, provided they place an order by the end of the week for $100,000, the retailer is happy to draw on say, a three-month loan paying 15%. The three-month interest cost on $100,000 would be $3,750 versus a potential increase in the profit margin of $30,000. This loan may also have security over the company’s assets and have directors’ guarantees or a mortgage over the owner’s home.

These high-quality SME loans (often fully secured) are leaving the banking sector in droves. The burgeoning fintech, peer-to-peer, and non-bank lending sectors are the perfect destination for SMEs. Simple, quick, and transparent processes and ultimately, access to funding in just a few days as opposed to weeks or months is what SMEs desire. And they are happy to pay up for such a service.

Alternatives offer a better customer experience

Changing consumer preferences are also contributing to the transformation. Gen Ys are getting older and spending more. This rapidly growing segment of the economy values speed and ease of finance approval and this is something the traditional banking sector has difficulty providing. Credit card usage is falling with the younger generation in particular preferring alternative payment methods. Advances in technology enable operators to build systems that do all the checks of a bank, plus more, in just a few minutes and provide an approval and appropriate risk-adjusted interest rate almost immediately. With advanced IT systems, these non-bank operators can do an ID verification check, credit check, history check, social media profiling (using approval ratings for services such as Airbnb, Uber, eBay etc.), and produce a decision in a matter of minutes.

SME loans follow a similar streamlined process and while they are a little more involved with directors’ guarantees or property security and charges taken over the underlying business in many cases, the turnaround times are much faster than the banks can provide.

Customers are even prepared to pay a higher rate than they may get from a bank if the decision process is fast. And this does not mean that the underlying credit is inferior. In fact, the opposite is often true. It is the dynamic and well-organized business owners that can see an opportunity and have the required financial information at hand to enable a quick online application and fast approval. The greater the history of online loans and repayment behaviour of an individual or company, the greater the accuracy of the decision-making engines. The fintech sector now has many years of data to back the underlying results.

The rise of fintechs for the supply of loans to SMEs was confirmed at the Royal Commission on Tuesday 22 May 2018. The ANZ's General Manager for Small Business Banking, Kate Gibson, provided numbers showing her division was facing a substantial reduction in loans, down to 114,000 in 2017 from 131,000 in 2014. She said, "There were new entrants into the market by way of fintechs, who were also offering lending options to small business customers."

Non-bank lending small but growing

In Australia, the non-bank lending market is growing rapidly but is still relatively small, with many players fighting for scale. We expect that in just a few years, Australia’s market will be far more developed, similar to the likes of the US and UK, where consolidation has occurred, and there are now a smaller number of strong operators. Access to debt funding for non-bank lenders and fintech operators in these more developed markets can be half the cost (i.e. credit margin) of what is seen in Australia.

In recent months the major banks have been providing the largest of the domestic fintech or alternative lenders with relatively cheap funding in the form of flexible ‘warehouse’ facilities. This access to cheap funding from the banks, in volume, will be a game changer for the Australian non-bank market if it continues to grow and filters down to the mid-sized players.

We are constantly monitoring regulatory changes and the opportunities they create in the fintech, peer-to-peer, and non-bank lending sectors. Likewise, the APRA crackdown on non-resident investment lending is also presenting opportunities in providing loans to international buyers on very attractive terms. With the traditional banks forced out of the market, high quality foreign buyers are prepared to borrow money for apartments (and houses) in Melbourne, Sydney and Brisbane with 40% deposit, 60% LVR (against an independent valuation) and at interest rates of up to 8%. The same loan to a local first-home buyer with a short employment history might be on terms such as a 10% deposit, 90% LVR, and 4.0% interest rate.

The growth of the non-bank lending market is a trend from which we believe investors can profit. Companies like Afterpay, CML Group and Heartland Bank have the operational structures, scale, and funding lines to be leaders in this sector. In the peer-to-peer space, marketplaces such as DirectMoney (listed) and SocietyOne (wholesale investors only) offer attractive rates of returns to investors.


Justin McCarthy is Head of Research at Mint Partners Australia, a division of BGC Brokers. The views expressed herein are the personal views of the author and not the views of the BGC Group. This article does not consider the circumstances of any individual investor.


How 'ridiculous' are hybrids for retail investors?

Bank collapse wakes up hybrids, but is subordinated better?

What happened to our gold-plated bank capital position?


Most viewed in recent weeks

Stop treating the family home as a retirement sacred cow

The way home ownership relates to retirement income is rated a 'D', as in Distortion, Decumulation and Denial. For many, their home is their largest asset but it's least likely to be used for retirement income.

Two strong themes and companies that will benefit

There are reasons to believe inflation will stay under control, and although we may see a slowing in the global economy, two companies should benefit from the themes of 'Stable Compounders' and 'Structural Winners'.

Welcome to Firstlinks Edition 433 with weekend update

There’s this story about a group of US Air Force generals in World War II who try to figure out ways to protect fighter bombers (and their crew) by examining the location of bullet holes on returning planes. Mapping the location of these holes, the generals quickly come to the conclusion that the areas with the most holes should be prioritised for additional armour.

  • 11 November 2021

Reducing the $5,300 upfront cost of financial advice

Many financial advisers have left the industry because it costs more to produce advice than is charged as an up-front fee. Advisers are valued by those who use them while the unadvised don’t see the need to pay.

Welcome to Firstlinks Edition 431 with weekend update

House prices have risen at the fastest pace for 33 years, but what actually happened in 1988, and why is 2021 different? Here's a clue: the stockmarket crashed 50% between September and November 1987. Looking ahead, where did house prices head in the following years, 1989 to 1991?

  • 28 October 2021

Why has Australia slipped down the global super ranks?

Australia appears to be slipping from the pantheon of global superstar pension systems, with a recent report placing us sixth. A review of an earlier report, which had Australia in bronze position, points to some reasons why, and what might need to happen to regain our former glory.

Latest Updates

Investment strategies

Are they the four most-costly words in investing?

A surprisingly high percentage of respondents believe 'This Time is Different'. They may be in for a tough time if history repeats as we have seen plenty of asset bubbles before. Do we have new rules for investing?

Investment strategies

Firstlinks survey: the first 100 tips for young investors

From the hundreds of survey responses, we have compiled a sample of 100 and will publish more next week. There are consistent themes in here from decades of mistakes and successes.


What should the next generation's Australia look like?

An unwanted fiscal drain will fall on generations of Australians who have seen their incomes and wealth stagnate, having missed the property boom and entered the workforce during a period of flatlining real wages.


Bank results scorecard: who deserves the gold stars?

The forecasts were wrong. In COVID, banks were expected to face falling house prices, high unemployment and a lending downturn. In the recovery, which banks are awarded gold stars based on the better performance?

Exchange traded products

In the beginning, there were LICs. Where are they now?

While the competing structure, ETFs, has increased in size far quicker in recent years, LICs remain an important part of the listed trust sector. There are differences between Traditional and Trading LICs.


Should you bank on the Westpac buy-back?

Westpac has sent out details of its buy-back and readers have asked for an explanation. It is not beneficial for all investors and whether this one works for some depends on where the bank sets the final price.

Investment strategies

Understanding the benefits of rebalancing

Whether they know it or not, most investors use of version of a Strategic Asset Allocation (SAA) to create an efficient portfolio mix of different asset classes, but the benefits of rebalancing are often overlooked.


Six stocks positioned well for a solid but volatile recovery

The rotation to economic recovery favouring value stocks continues but risks loom on the horizon. What lessons can be drawn from reporting season and what are the trends as inflation appears in parts of business?



© 2021 Morningstar, Inc. All rights reserved.

The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. Any general advice or ‘regulated financial advice’ under New Zealand law has been prepared by Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892) and/or Morningstar Research Ltd, subsidiaries of Morningstar, Inc, without reference to your objectives, financial situation or needs. For more information refer to our Financial Services Guide (AU) and Financial Advice Provider Disclosure Statement (NZ). You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.

Website Development by Master Publisher.