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Each day brings fresh evidence that the traditional UK banking model is under intense pressure, if not actually on the verge of breaking down altogether. At the same time, peer-to-peer (P2P) finance is on the rise, offering investors greater returns on investment and helping borrowers access funds that the banks are increasingly reticent to release. It’s a difficult time for the finance industry and savers alike - a new approach is clearly needed.
Problems facing the sector
RBS was the most recent bank to be on the receiving end of some elaborate media speculation that it was planning to shed a further 15,000 jobs to save £800m per annum in costs.
In the end, it reported its first profit since Q3 2015 (£259m); however, the fact that it is still in business at all, having lost a reported £50bn since its original government bail-out in 2008, is little short of a miracle. In any other sector, losses on this scale would not be tolerated. If a company in tech or manufacturing or professional services were haemorrhaging that much money then the financial institutions supporting it would simply call time on the business and its management. The unique position that banks occupy in our economy means the government can’t afford to have them fold, and so they plough on, dragging their deficits with them.
RBS clearly has some special problems, including the need to replace an obsolete IT system that is prone to breaking down, but there is one common and lethal trend that plagues all the major banks – the fall in interest rates to record lows. Resulting margins are simply too fine to sustain profitable existence, which is why we also learnt in February that the Co-Op Bank has put itself up for sale. As of mid-April, Lloyds TSB’s chief executive has ruled out the prospect of buying it, and no further interest has yet been expressed. It’s a bleak prospect for an institution that has already been rescued once by Wall Street hedge funds in 2013.
Low interest rates compound the problem
Adding to these woes is the fact that low interest rates are extremely popular with politicians because, in combination with the fall in the value of sterling, they power economic growth in this post-Brexit era by helping exporters. They also keep down the costs of borrowing, including mortgages. The irony is that, if and when interest rates do start to rise, we know from their past behaviour that the banks are likely to put up the cost of borrowing before they pass on any of the benefits to long-suffering investors. That’s how they will hope to restore margins.
All of this begs the question: if the banks can’t earn a decent crust in times of low interest rates, how can anyone else expect to do so? Especially if ordinary people and businesses don’t enjoy the special dispensation that is offered to banks when it comes to loss-making. The picture becomes even more disturbing when set against the backdrop of rising inflation, which has lept to 2.7 per cent since the start of the year, up from 1.6 per cent in December 2016. This is already above the Bank of England’s target of 2 per cent for this year and matching the 2.7 per cent that was originally predicted for 2018.
It looks like the era of low interest rates will be with us for some time yet, and that is far from good news for investors who have just seen another 0.25 per cent shaved off their returns from National Savings products – a move quickly reflected in bank and building society deposit rates.
Peer-to-peer finance - raising returns
What it means is that investors need to look for ways to boost their returns far above what the banks can offer. Relatively secure returns are already readily available through P2P loans, which are looking more attractive with each passing day. By lending money to stable companies through experienced platforms, investors can boost their returns far above what other more traditional investment products can offer.
Of course, high returns are traditionally associated with greater levels of risk, meaning that many investors are still choosing to stick with traditional investment products returning less than the rate of inflation. To address this issue, investors need to ensure they lend over platforms with security built in. Careful borrower curation can help investors to make the most of their money without worrying about defaults.
The banking model is struggling to make headway in the current economic climate. P2P lending platforms provide a way out of the rut. Investors must incorporate P2P into their portfolios if they are to make their money work for them.