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Session Summary: Valuing Creditworthiness – the Past, Present, and Future of Microloan Underwriting

posted: 2011-06-23 @ 11:32 am EDT

By Michelle Mak

This session explored the various methods of underwriting microloans, both overseas and domestically, and initiated discussion for what could potentially be the future of microloan underwriting in the US. The panel was moderated by Caroline Glackin (Shepherd University), and panelists Asim Khawaja (Harvard Kennedy School of Government), Jordan Pollinger (Federal Reserve Bank of New York), and Nelly Rojas-Moreno (Accion Texas-Louisiana) shared about experiences and opportunities they perceived could improve underwriting methodology.

The panelists initially described four basic types of microloan underwriting methodology:

  • Credit Scoring Model – relying on individual credit scores as an indication of creditworthiness.
  • Peer Lending Model – traditional model of microfinance overseas whereby loans are made to groups of women who mutually guarantee each other’s loans, and only one person may have an outstanding loan at a time; repayment is on a weekly basis when the group meets.
  • Traditional Lending Model – underwriting used traditionally in banking, which is based on predicting business’s future cash flows, collateral, or guarantors.
  • Behavioral Model – methodology that utilizes personality tests to identify entrepreneurial leaders, who have a high likelihood of business success, and ultimately will have the capacity to repay the microloan.

The panelists recognized that microloan underwriting has developed in the US based largely based upon underwriting methodology overseas. Group lending has not been as popular domestically as internationally, therefore in the US, we rely more heavily on credit scores, while still emphasizing a personal relationship with the borrower, and understanding the business and source of client’s motivation. We also recognized that in the US, we are more so trying to empower entrepreneurs, whereas in developing countries, we are trying to alleviate poverty.

We then delved further into the Behavioral Model. Asim championed the idea of underwriting microloans based on the Behavioral Model, based on research from the Entrepreneurial Finance Lab at Harvard (http://www.hks.harvard.edu/centers/cid/programs/entrepreneurial-finance-lab-research-initiative). This methodology measures entrepreneurial potential through four characteristics: ethics, intelligence, psychological profile, and business skills. The model is currently being tested in Latin America and Africa and thus far has been successful, indicating that entrepreneurial personality characteristics may cross cultural barriers. While the Behavioral Model is practical in theory, the audience and panelists discussed its relevance, considering the different goals that venture capitalists and microfinance institutions have. Venture capitalists generally don’t expect the majority of their investments to be successful, but the ones that are, are wildly successful. On the other hand, microloans generally have a repayment rate well over 95%. However, it is certainly a method to be further tested.

Overall, the session was very insightful and the panelists brought a breadth of experience and research. I think it would have been relevant to include more panelists who were experienced in technical microloan underwriting, in addition to academic research. It was interesting to hear how professionals in microfinance assess risk domestically though, and I look forward to learning more innovative underwriting models as we continue to develop microfinance both overseas and domestically.

Michelle L. Mak currently works in the Education and Nonprofit Banking Group at Wells Fargo Bank in New York City, and recently returned from six months in China where she did microfinance in Jiangsu and established an office in Hong Kong for Opportunity International.

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Session Summary: The Impact of Volunteers on Microfinance

posted: 2011-06-22 @ 11:17 am EDT

By Alicia Quinn, ACCION USA

Given current economic conditions and the reverberating effects on non-profits, many organizations are relying on volunteers more than ever. This is a mutually beneficial relationship; organizations receive labor at little to no cost and volunteers fulfill their desire to give back. However, there are farther-reaching impacts of volunteers on microfinance organizations. Four professionals discussed these effects during a panel moderated by Erica Dorn, Manager of Volunteer Partnerships for ACCION USA, at the 2011 Microfinance USA Conference.

  • Catchafire matches skill-based professionals with the specific needs and projects of non-profits. Rachael Chong, founder and CEO, discussed how this pro bono service platform allows volunteers to apply the knowledge and skills developed in their careers to assist the needs of non-profit organizations. Each volunteer meets one-on-one with an executive of the non-profit and fulfills the project on his or her own time, without the pressure and constraints of a specific schedule. In addition to the application of the volunteer’s specific skill set, this approach allows best practices to be shared and builds organizational capacity.
  • Kiva has developed a model in which volunteers assist the organization without having to leave their computers. Alexandra Jafee, Review and Translation Manager, described how volunteers serve as the voice of entrepreneurs by editing and translating the stories of their businesses. These stories are then posted to the Kiva website and donors choose to whom they want to provide funding.
    • Bankers without Borders, a program of Grameen Bank, works with corporate groups to provide expertise to microfinance initiatives around the world. By applying industry knowledge and skills to poverty-alleviation efforts, financial professionals fulfill community service goals while providing skills-based outreach.

While volunteers fill important roles and add value to the organization, however, organizations must carefully manage this relationship. They stressed the importance of treating volunteering like employees of the organization, by providing recognition, opportunities for continuing education, etc. People like feeling appreciated for their efforts. By showing its appreciation, and highlighting the outcomes, of volunteers’ work, organizations have a better chance of gaining sustainable commitments of volunteers to the organization.

As the panelists all highlighted during their discussion, the work and commitment of volunteers in Microfinance is essential for the success of these organizations and, in turn, the entrepreneurs who benefit from these services.

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Session Summary: “Balancing Act: Mission, Profit and Impact in Microfinance”

posted: 2011-06-15 @ 12:34 pm EDT

By Stephanie Peng, Kiva New York Lending Team

“Balancing Act: Mission, Profit, and Impact in Microfinance” centered on for-profit vs. non-profit MFI’s and benefited tremendously from having Carlos Danel of Compartamos on board. Compartamos has often been criticized for its high interest rates and accused of profiting off the backs of the poor. Carlos did a fantastic job of explaining Compartamos’ practices. Compartamos has an average loan size that is a third of the rest of Latin America’s (~$300 vs $900). It also has a large rural customer base, which is harder to reach than an urban clientele. These two factors lead to higher administrative costs, which necessitate a higher interest rate. Carlos also pointed out that Compartamos has no non-profit competitors, which is further evidence of the difficulty of reaching sustainability in the environment in which Compartamos operates, without charging their interest rates.

Balancing Act Panel Photo

Photo by Taylor Davidson of Narratively http://narratively.com

The panel also pointed out that the divide shouldn’t really be profit vs. non-profit. If an MFI with a margin between income and expenses re-invests that profit into greater outreach, isn’t that a good thing? The divide should really be payout vs. non-payout. The conflict between the social bottom line and the financial bottom line really emerges when outside investors demand a financial payout from the profit produced by the MFI, instead of focusing on the social mission.

My takeaway for the day was that there are no blanket statements in microfinance. Context matters. You can’t say that all MFI’s should be non-profit, and you can’t confine the way you think about microfinance products to the 3 buckets of microcredit, microsavings, and microinsurance. Everything is highly dependent on context—whether it be in Mexico, where clients are best served by small rural loans and interest rates are driven by high administrative costs, or equity investments in students making their way through the high-cost U.S. educational system.

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Day 2 Kickoff: The Intersection of U.S. and International Microfinance

posted: 2011-06-15 @ 7:49 am EDT

By Valbona Bushi, Kiva New York Lending Team

The second day of the conference started off by bringing back to the floor the leaders of the three main organizations behind the conference: Gina Harman (ACCION Network in the U.S.), Premal Shah (Kiva), and Eric Weaver (Opportunity Fund). As the discussion focused around microfinance in the US and internationally, it should be noted that it was just three years ago that this conference started to start discussions around microfinance, and develop stronger connections and learn from each others’ strategies and lessons.

Each organization has had its own setbacks and successes, but combined they have had more than $500 million in impact around the world. Each one currently operates around the globe, but didn’t start off that way. For example, Kiva had its operations for four years outside of the US before deciding to enter its market. The move was really driven by the lenders who didn’t until 2009, and with the financial crisis at hand, started to seek to help their fellow Americans.

Photo by Taylor Davidson of Narratively http://narratively.com

A lesson from Gina, and surprising at that, was that internationally people are looking to change their communities and the lives of their families for the better but lacking the resources, and, here in the US, those resources are there but the distribution channels need to be improved to reach their intended audience. There are 10 million small businesses in the US and 3 billion people in the world lacking access to financial services. In her own words “this is the time to unleash the human resolve and capacity by removing the barriers to financial services.” The beauty of microfinance is that it allows each organization to look beyond the credit score and look to learn about the individual and help them build a better credit history by reporting to the credit bureaus on loan paybacks.

The overall message, through, cautioned that microfinance has been seen as the ‘magic pill’ to fix every problem out there, so organizations must be specific in their missions and realistic with their accomplishments with the key word being ‘finance’. In Eric’s words ‘It is not about repayment rates, but about putting money in the hands of the people that really need it to use to improve their lives in the way that they choose. In addition, recent solutions to the credit crunch have focused on community, with organizations such as Kickstarter, using online and offline communities to support small loans. Who knows where the industry will go from here.

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Session Summary: “Understanding the Underbanked Consumer”

posted: 2011-06-07 @ 9:46 am EDT

By Daniel Kreps

Why would one pay a large fee to cash a government check or pay a bill?  What induces some people to pay an effective annual interest rate of 400% for a short-term secured loan?  Two studies, one by the Center for Financial Services Innovation (CFSI) and another by the Pew Charitable Trust (PCT) provide some answers to these questions and were the basis for the session concerning “Understanding the Underbanked Consumer and the Future of Financial Services.”

Rachel Schneider outlined the findings in the CFSI study which found an ethnically mixed population of 21 million American households with little or no bank relationships.  According to the CFSI study these low-income consumers spend $29 billion per annum on financial services. While the study determined there was significant overlap between the unbanked and subprime borrowers, some 25 percent would be considered prime borrowers and 42% simply had too thin a credit profile to qualify for prime credit products.

The study also found that the banked and the unbanked borrow and save for essentially the same reasons.  Roughly 40% of both populations borrow because they have trouble covering living costs from current income.  And, the major reasons for savings for both groups are also similar—emergency fund, retirement, college savings, buying a home purchase and purchasing a car.

However, the un-banked must rely on so-called “alternative financial service providers” (AFS) who tailor their product offerings to be more appealing to the unbanked while those with access to banking services address their needs at lower costs and often with government subsidies.  As a consequence, while both banked and under banked low-income consumers were hard hit by the economic downturn, those with access to standard banking products fared much better.

The PCT study, presented by Eleni Constantine, documented the interesting phenomenon that as many low-income consumers seem to be exiting banking relationships as opening accounts.  This suggests that as individuals circumstances change for better or worse, they gain or lose options in the financial services arena.

So why might rational consumers opt for products and services that are significantly more expensive? Both studies pointed to the greater simplicity of the AFS products and how AFS providers made greater efforts to make low-income consumers comfortable.  The studies quoted participants as saying they felt more appreciated and respected by the AFS providers and that their products, such as pre-paid cards, kept them from bouncing checks and running up large credit card balances.

The PCT study forecasted a growing need for low-income financial products and services—especially for credit—and noted the growing participation of retailers, such as Wal-Mart in catering to the needs of the underbanked.  It recommended that credit products be integrated with savings products and credit repair services, and warned that the growth in financial services provided by non-banks risked the creation of a two-tier system for the banked and the unbanked.

Ms. Constantine concluded that recent regulatory efforts designed to protect consumers from high banking fees could actually push more low-income consumers out of the banking system and into the high cost environment of largely unregulated alternative financial service providers.

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Session Summary: Innovation in Microloan Underwriting

posted: 2011-06-06 @ 9:58 am EDT

By Caroline Glackin, PhD, Shepherd University – May 30, 2011

The How Do You Value Creditworthiness? The Past, Present and Future of Microloan Underwriting panel at the Microfinance USA Conference sparked significant interest and discussion.  The panelists were Dr. Asim Ijaz Khwaja from Harvard’s Kennedy School of Government, Jordan Pollinger with the Federal Reserve Bank of New York, and Nelly Rojas-Moreno of ACCION Texas-Louisiana.  The room was packed and the participants remained in intense conversations well after the session ended.  They had myriad innovative ideas to discuss.

The Participants – The session kicked-off with a quick survey that revealed that the majority of those present had either worked or volunteered for a microfinance institution and a number of them had underwritten microloans.  Few participants had taken out microloans.

Lending Methodologies in Practice – The panel got rolling with a discussion of lending methodologies of the past, present and future to provide a common foundation. Each panelist took a turn and the audience heard about group lending, “traditional” underwriting, specialized credit scoring for microentrepreneurs, and psychometric testing.  The panelists discussed how underwriting has morphed into many, diverse attempts to balance the needs of clients/customers and the risk tolerances of lenders.  Microfinance institutions are frequently adapting and making changes, some more radical and innovative than others.

Ideal Underwriting Options – Interestingly, when asked about their ideal underwriting method, the panelists were relatively consistent.  They wanted a way to assess risk and predict repayment that was well-suited to microenterprises, capable of being used broadly, scalable, and cost effective.

What this might look like was a less consistent picture.

  • Ms. Rojas-Moreno spoke about ACCION Texas-Louisiana’s screening scorecard and the individual judgment applied regarding client character.  She suggested that finding a consistent, accurate predictor of character would be tremendously helpful to the model.  She also suggested that many lenders could subcontract their underwriting.
  • Dr. Khwaja expressed his hopes that the methodology developed and tested by the Entrepreneurial Finance Lab could address many of the underwriting issues simultaneously and effectively.  Be selecting a series of questions, the measurement instrument predicts payment where credit history is absent, incomplete or weak. The psychometric instrument has been tested in Africa and Latin America and is being used by banks in Africa.

Part of this discussion was the notion that lenders have no incentive for the performance of borrowers beyond repayment and that venture capital investment has greater value in some ways because of the upside potential.  This too created some stir.

Discussion

The audience quickly raised a number of questions for all of the panelists.  These two stand out in my mind:

  • If having lenders share more in the risk of the business is desirable, what role should microequity play?
  • Would U.S. fair lending and other consumer protections prevent the use of psychometric testing for credit underwriting?  What options are there to make it work?

These questions remain to be fully answered, but the conversation is underway.  I, for one, look forward to learning more about the evolving options and how they can improve microlending in the United States.

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Shame, Fame & Video Games: Session Summary for “Designing Products that Promote Financial Capability”

posted: 2011-06-03 @ 2:29 pm EDT

By: Daniel Kreps

In the break-out session on “Designing Products that Promote Financial Capability” participants outlined efforts to use social networking technology and video games to change consumer behavior related to personal financial decisions.  Rob Levy of the Center for Financial Services Innovation (CFSI) moderated the session which addressed the apparent ineffectiveness of traditional financial education programs to improve the “financial capability” of American consumers.

According to a recent study by the CFSI, 49 percent of U.S. households are unable to meet monthly expenses from current income despite years of financial literacy training.  Furthermore, the CFSI study rated U.S. consumers deficient in other factors they define as key determinants of financial capability such as using a budget and having the ability to select and manage basic financial products and services.

CFSI concludes that to be effective in promoting financial capability practitioners must “think beyond the classroom” and design programs that are relevant, timely, actionable and ongoing.  Financial literacy education must be linked to access to financial services, leverage technology, incorporate the principals of behavioral economics and utilize cross-sector partnerships.

Innovations for Poverty Action (IPA) has been engaged in the international sector since 2002 and recently turned its attention to the issues of high debt, low financial resiliency and low savings in the United States.  Brooke Berman explained that IPA sees the problem of low financial capability in a broader social context.  That is, behavior considered rational for the individual (e.g. maintaining a reserve of savings) is not often viewed as optimal from a social perspective.

IPA solutions stress such techniques as commitment contracts and automated reminder messages that, in effect, shame consumers who spend rather than meet announced savings targets.  This is a similar approach some weight-loss programs or anti-smoking campaigns work to get participants to change unhealthy behavior.  Ms. Berman described the “Borrow Less Tomorrow” (BoLT) program in which participants identify debt they know they should pay down, commit to a repayment schedule and enlist their social network contacts to provide peer pressure to achieve their goals.

Doorways to Dreams (D2D) has developed a number of video games designed to teach adults about financial capability and help them change financial behavior.  Tim Flacke said that D2D’s approach is predicated on their belief that poor financial behavior is a “demand side problem”—people are inherently resistant to changing behavior.  D2D has produced what they describe as “financial entertainment” which differs from traditional financial literacy training by being engaging rather than earnest, targeted rather than comprehensive, interactive rather than static and accessible rather than restricted.  Their games are available at www.financialentertainment.org.

Piggymojo, works at behavior change by making savers “heroes” to their partners.  Designed to be used by couples, the program turns impulse saving into a better “feel good” experience than impulse spending.  The founder of Piggymojo, Jayson Halladay, said that a family with an annual income of $45,000 typically spends 20% of their income, or $8,000 on impulse, non-essential purchases.  Piggymojo rewards people when they make a decision not to spend by sending a text to the other half say that he/she, rather than buying something, put the cost of the purchase into a joint savings account.  The program tracks the respective “saves” of each partner and creates an image over time of the goal the couple has mutually agreed to save for.

These approaches to improving financial capability are clearly not your father’s kind of financial literacy training.  Designed to appeal to the “wired” generation it will be fascinating to see if these innovations take hold and produce a more fiscally responsible generation.

Daniel Kreps is a Social Entrepreneur at Banking on the Poor

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More #MFUSA2011 Takeaways

posted: 2011-05-31 @ 12:46 pm EDT

Check out this #MFUSA2011 reaction post from Barbara Kiviat, a member of the U.S. Financial Diaries research team & conference attendee:

“A Call for Better Language” from the Financial Access Initiative blog.

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Reminders, Automation and Disclosure: Helping People Achieve Their Financial Goals

posted: 2010-06-25 @ 2:18 pm EDT

By Genevieve Melford, “Behavioral Economics and Microfinance” session panelist.

At its core, microfinance is about empowering low-income people, through access to small-scale financial products and services, to improve their financial condition. Insights from the study of behavioral economics have a lot of value to add to the practice of microfinance. They help us understand how people make decisions, and the way that the immediate context of their decisions guides financial behavior, and can even undermine the ability to meet financial goals. Armed with this knowledge, we can design products, systems, and financial regulations that meet people where they are, and therefore have the potential to support their financial success in much more significant ways.

A few weeks ago I had the pleasure of introducing and moderating a session on Behavioral Economics and Microfinance at the 2010 Microfinance USA conference. As readers of this blog likely already know, there are myriad ways that insights from the behavioral sciences can apply to everyday life, and to financial decision making. We chose to focus the session on behaviorally- informed interventions to affect savings and borrowing decisions, two of the building blocks of personal financial management and opportunity, and key areas of interest for the microfinance field….

…visit CFED’s blog to continue

Genevieve Melford is a Senior Program Manager for Applied Research at CFED, where she leads the organization’s applied behavioral economics work.

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Partnerships, Communication, and Community Resonating Themes at Microfinance USA: Opening Plenary Summary

posted: 2010-05-27 @ 8:55 am EDT

It wasn’t difficult for the roughly 700 audience members to follow the collective story that was told by the four entrepreneurs participating in the Microfinance USA 2010 opening plenary. Maria Shriver, First Lady of California, Premal Shah of Kiva, and two local Kiva borrowers (Mandy and Erik) each told a story about pursuing an idea or a dream—although each certainly went in a separate direction—engouraging others to do the same.

A few key messages were part of their story:

  • Partnership: This theme was discussed multiple times at Microfinance USA 2010 and it was the first topic of conversation during the opening plenary. Premal Shah began the panel recounting the partnership that began two years ago when Maria Shriver first visited Kiva. At the visit in Kiva’s office Maria simply asked Premal, “why not [microfinance] in our own backyard?” Two years later, Premal, Maria, and two U.S. microentrepreneurs funded through Kiva and U.S. field partner Opportunity Fund are talking about the success of that partnership.
  • Communication: Maria’s experience as a journalist and her effort communicating the cause of U.S. microfinance is one of the biggest strengths she brings to the movement. She emphatically reminded the audience of the importance of communicating the microfinance story. She emphasized the importance of keeping the message simple and straightforward.
  • Community: The entrepreneurs brought to light the real value of their struggles to access capital when they were starting their businesses, and told the audience their definition of “community” –the interdependence that encourages them to better themselves, their business, and society.

The panelists’ stories will keep evolving, but what they all agreed on is the urgency to share the microfinance message. In the words of Premal, if something “doesn’t work that means that you’ve gotten to the next starting point.” U.S. Microfinance, even after decades of work is still at a starting point— partnerships, communication, and community will help us see where we can take the microfinance movement, together.

Maria Shriver started the Women’s Conference to empower women to be Architects of Change in their homes, their workplaces, their communities and the world around them. Maria has been especially dedicated to empowering woman through entrepreneurship. Her conversation publicly and with organizations like Kiva, ACCION USA, and Opportunity Fund are helping to bring greater awareness to the cause.

Erica Dorn is the Volunteer Partnerships Manager at ACCION USA. Her work is targeted at bringing financial access to microentrepreneurs in the United States by harnessing the leadership of students. She served as the first domestic Kiva Fellow. Find her on twitter @eldorn.

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