Open banking: paving the way for the future of SME credit analytics

"Open banking offers benefits to both lenders and borrowers"

- according to Rikard af Ekenstam, Trade Ledger's Managing Director for Europe, during a panel discussion on open banking and SME credit analytics. Open banking allows for faster, less expensive credit analysis. So lenders can make quicker decisions about whether to extend credit; and borrowers get faster access to the loans that help them move their business forward, invest and grow. Rikard said:

Faster, lower-cost credit analysis also means lenders can target a much larger SME market than before. "In the UK you have six million SMEs, with a large proportion saying they lack access to credit," said Rikard. "There will certainly be more creditworthy SMEs that will be found by lenders through open banking, and that's where you have the real magic and economic gain."

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It's not just neo banks that are keen to take advantage of the benefits of open banking in their business lending activity. Trade Ledger is working with large Tier 1 and 2 banking institutions that want to build open banking functionality into lending platforms currently in development. "In the coming year there will be more competitors on the business lending side using open banking, and I think that will play out in a very interesting way, with the winners serving more borrowers, at a lower unit cost, and gaining increasing market share," said Rikard.

The panel was hosted by John Brehcist, co-founder of World of Open Account (WOA). Also joining the discussion were Ghela Boskovich, Head of Europe at Financial Data and Technology Association; James Varga, CEO and Founder of DirectID; and Halvor Lande, CEO of Aprila Bank.

"We're starting to see what the intersection of investment, savings, payment and credit actually looks like"    

- Ghela Boskovich, Head of Europe at Financial Data and Technology Association

More choice for SMEs

Whether driven by regulation (as in Europe, for example, with PSD2) or by market forces (as in North America), open banking is here to stay. James said: "The opportunity to access this data is a global trend. The real pressure now is that we've got to build value from doing this right and making better decisions — not just in  origination and onboarding, but in portfolio management and even into collections of recoveries."

With open banking regulation making bank data mobile and portable, a business is free to choose whichever credit or other service provider they want to engage with. The time will come when every small business will be able to look beyond its current bank and current relationships and find a provider in the market that can really understand and meet its needs. "Ultimately, this means that SMEs will have better, easier access to working capital, payments and other banking products," said Halvor.

Ghela said: "We're starting to see what the intersection of investment, savings, payment and credit actually looks like, and I think that's where it gets to be much more interesting, especially for small businesses and for looking at credit risk."

The incentive is convenience

The potential for faster and smarter access to capital gives SMEs every incentive to make their bank, accounting and invoicing data available via APIs for real-time credit analysis.

"In open banking terms, we're just talking about sharing your bank statements in digital form. I think viewing it as something radically different is wrong. Convenience is a huge motivator. We have to provide more opportunities for end users to share their data," said James. "It's about educating the customer that sharing information gets them better outcomes," added Ghela.

Unbiased underwriting

Automated underwriting based on digital processes is less prone to unintended bias. "I think that objectivity is the lesson. And of course, your algorithms can learn over time, so that becomes something which is more consistent," said James.

When it comes to refining risk analysis, banks should trust their own governance structures, but may partner with fintechs to do some of the work. "You don't need to test it 100 times, just once or twice. Once you have a valid outcome, it becomes a decision about whether or not to engage with and lend to that business," said Ghela.

Take it mainstream

To really take open banking and open finance mainstream, banks and other lenders need to use the data to provide better and more customised solutions including more dynamic pricing. This will help lenders reach more clients while not jeopardising, but improving, the overall risk / return profile of their business loan portfolios.

"Given the pandemic and the pressure on economies and businesses, open banking, if used smartly together with modern lending technology, will allow banks to say yes to more businesses with short or thin credit files - improving overall capital provision to SMEs and improving financial inclusion," said Rikard.

"There will certainly be more creditworthy SMEs that will be found by lenders through open banking, and that's where you have the real magic and economic gain."    ‍

- Rikard af Ekenstam, Trade Ledger's Managing Director for Europe

Behavioural analysis as part of credit analysis

Open banking can also make a real difference in credit analysis by helping a lender look at the behaviour of a company. For example: do they pay salaries and utility bills on time? If so, it's probably safe to infer they'll make their loan payments on time, too.

"I think there may be a way to reduce (rather than increase) the number of data sources — and still make a very good credit assessment — if you can crack open banking in terms of analysing that data in a sensible manner such as connecting it with invoice data," said Rikard. "This behavioural analysis is clearly different from the traditional analysis of historical financial data, and clearly it will take time and experience for it to become embedded. But the opportunity to use those alternative behaviour pointers to creditworthiness is, I think, one of the more fascinating potential uses of open banking."

What does the future hold?

The panel discussed whether it's sustainable for banks to count on lending as their main income source beyond the immediately foreseeable future. Rikard concluded:

"I think the more exciting propositions will see lenders and trusted banks starting to translate that trust via open banking to provide wider services beyond capital provisioning, such as advisory and other less capital-intensive products," said Rikard. "If I were sitting in the strategy team of a bank, that is where I would focus — how can I monetize open banking technology by helping my clients more?"

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