Generally, 2017 has been a good year for fintech and online lending in Indonesia and most of Southeast Asia.
According to CB Insights, there were only three fintech deals in 2014 in Indonesia. The number rose to 11 in 2015 and increased to 21 in 2016. It is expected to rise to 53 in 2017.
The value of fintech deals reached about US$3 billion in 2017 in Indonesia alone. While this pales in comparison to fintech deals in China and the West, such traction bodes well for the future of fintech in Indonesia.
Boom and bust
Heading a pioneering fintech lending company in Indonesia (my company, UangTeman, started in April 2015), I‘ve seen the development of the nascent industry since its birth. As much as I am excited about the fast growth of fintech lending in the country, I worry about its future too.
If history is a good teacher, it teaches that the space is embarking on the same trajectory as that of the US, the UK, and China. The problem is that everyone is giddy with the industry’s boom but forgets about its bust phase.
My thesis is that this phase will come faster than expected, resulting from higher non-performing loans (NPLs) and eventual consolidation of the industry. The situation will be exacerbated by the influx of low–cost capital from foreign (and local) investors who may not be acquainted with the unique risks of fintech lending in Indonesia.
The country has seen its first wave of fintech lenders. It has benefited from exactly the same kind of unsustainable trends that the US (with online lenders like LendingClub, OnDeck, and Prosper) have seen. These trends include:
- A low–yield environment within Asia in general
- A robust credit environment with historically low defaults (but this has been changing in the past year in Indonesia)
- Mainstream financial institutions, which are still bearish about making new unsecured loans to consumers
The macroeconomics of household debt poses a worrisome trend too.
Cheap and dumb money
There has been a radical uptick in the past six months from Chinese investors interested in investing in fintech lending in Indonesia. This is a direct result of the clampdown on fintech lending in China and the need to search for yield elsewhere.
The interest rates at the People’s Bank of China have dropped from 6 percent to as low as 2.75 percent over the past five years. Likewise, Japanese investors are searching for higher yield outside of Japan where interest rate is a mere 0.1 percent (Japanese government bonds yield only around 0 percent).
With this background, the strong economic performance of Indonesia (GDP growth at approximately 5 percent), and a large unbanked and underbanked population, it is no surprise that foreign investments are flooding into Indonesia, especially in the fintech space. However, with access to cheap capital flooding the market, there is immense pressure on online lenders to grow faster and more aggressively. Mediocre online lenders will also receive funding.
In other words, the need to deploy cheap capital to start yielding returns would invariably mean that underwriting standards by online lenders would be relaxed, and unworthy borrowers are provided loans. This happened in the US when institutional money was chasing P2P loans as a new asset class, which resulted in loans being underwritten just to satisfy that hunger.
The natural and logical conclusion to the phenomena of cheap (and mostly dumb) money is that Indonesia will start seeing a proliferation of bad loans made to consumers through alternative online lenders. When both regulators and investors wake up from their dream to smell the roses, they will only smell the manure fertilizing the roses.
Against this background of cheap and dumb money, Indonesia has seen a rise in NPL in its banking sector. Economists are predicting that 2017 will see an NPL ratio of about 3 percent to 3.5 percent, a sharp rise from 2.4 percent in 2015, says an article on Indonesia Investments. It adds:
Indonesia’s accelerating economic growth, as well as Bank Indonesia’s lower interest rate environment, has resulted in rising credit demand from individuals and corporations.
With the Indonesian mainstream financial institutions tightening their credit underwriting, online lenders have seen an interesting phenomenon, where easily banked (but not prime) consumers are borrowing from online lenders. In other words, online lenders are picking up potentially bad borrowers.
Indonesia has always been a country where the household–debt ratio to its GDP has been admirably low. As of 2016, it was still only 10 percent of its GDP, while the US household-debt ratio is about 80 percent. However, a deeper look shows that the Indonesian household–debt ratio actually increases as the US household–debt ratio decreases.
While there are certainly good reasons to be bullish about the Indonesian fintech space (which I am sure litter most investment thesis decks of foreign investors keen on Indonesia), we have not seen the full boom–bust cycle of consumer credit yet.
My thesis is that the bust cycle would be particularly painful for online lenders in Indonesia, where only the strong will survive. Banks have historically seen such cycles and are regulated and built in a way to withstand them. Alternative online lenders are not, unless founders of such lending platforms focus on building resilience at the outset (and not entirely focused on growth for the sake of a quick buck).
As online lenders, investors, and regulators pop champagne bottles while riding this fintech wave in Indonesia, when the party is over, those with the most bearable hangover are those who know when to stop drinking.