Consumers who turn to alternative loan products are generally perceived as underbanked or overly risky to get traditional credit products. In a recent analysis conducted by TransUnion, the findings suggest there’s a creditworthy segment of alternative loan debtors that also work well with conventional credit products such as a credit card or personal loan.
Alternative loans, including short-term loans, short-term installment loans, virtual rent-to-own or point-of-sale finance, are a type of credit obligations not observable on traditional credit reports. In TransUnion’s alternative credit database, including consumers who have applied for or obtained one of these loans in the previous seven years, 66% of the population was considered subprime, compared to risk distribution of their overall credit-active population which generally stands at 25%. For our purposes, subprime is generally described as consumers that have a VantageScore 3.0 score that falls below 600.
Though the analysis did find that customers who have utilized alternative loans are inherently riskier, conventional wisdom indicates that these consumers take part in this market since they cannot get traditional credit solutions. But, TransUnion took a closer look and discovered not only 12% of those consumers have prime and above VantageScore scores over 661, but many across all risk tiers have recently opened traditional credit products.
TransUnion studied the loan operation of more than five million customers who originated a conventional credit product between Q2 2015 and Q1 2016 and measured the operation for 12 months following the origination of the loan. Approximately 450,000 (or 8% ) were present in TransUnion’s alternative credit report. This overlap suggests that consumers who are active in the alternative loan economies are qualifying for and opening traditional credit.
TransUnion then compared the operation of consumers within the alternate credit database to consumers who didn’t participate in this market. Though it continued to maintain true that lots of alternative credit customers had greater delinquency rates on conventional loans, the analysis also identified some material pockets of consumers whose good performance in the alternative credit markets might be an indicator of reduced delinquency rates on conventional credit.
For example, consumers who employed alternative loans multiple times as a normal part of their fiscal management plan actually had lower delinquency rates on conventional credit products than those who obtained alternative credit only once. The study concluded that customers who use short-term loan products as a normal credit vehicle for handling their finances seem to manage all debt more sensibly than other borrowers in the database using the same traditional credit unions.
These findings present an intriguing opportunity for financial institutions that do not have insight as to which sections of the customer base are using or have used, alternative credit solutions. By taking a look at the credit risk more comprehensively and accepting alternate loan information under consideration, lenders may be able to more accurately differentiate higher risk consumers from reduced risk buyers and have a much better ability to identify and quantify risks.
Lenders can use additional features available in the alternative lending database, including amount of zip codes, speed of queries, the number of short-term loans, along with several other attributes, to further assess risk. For instance, consumers who had numerous address changes on file were associated with a large number of cell phone numbers were also more likely to be delinquent on conventional credit products. Taking note of these potential”high-risk” indicators and incorporating extra data points might help separate that threat. This provides a chance to go above and beyond just knowing if a particular consumer is present from the alternative lending database and gives a broader comprehension of consumer behaviour.
Presently, the vast majority of lenders are not getting the full picture on this consumer segment as other loans are among the largest credit categories not reflected in the conventional credit file. Arming lenders with more data to assess consumers can supply them with greater assurance to expand credit at the place where they might not have previously. As a result, borrowers would also benefit as they may gain increased access to conventional credit products and construct their credit files. Taking a deeper dive into the information and behaviors surrounding customers with alternative loans may not just result in a larger financial addition story but may also be a ‘win-win’ situation for the entire market.