Andy Kessler interviews Mike Cagney, founder of SoFi, which, Kessler reports, found its initial success lending money to Stanford graduate students:
Digging for good credit risks worked at Stanford, and Mr. Cagney soon realized that he could apply the same concept elsewhere. Instead of relying on notoriously inaccurate backward-looking FICO scores, SoFi is “forward-looking.” That means asking basic questions—“Do you make more money than you spend?”—and calibrating where applicants went to college, how long they’ve been employed, how stable their income is likely to be over time. [Emph. added]
FICO scores are “notoriously inaccurate”? This is news to me. Rather, I thought the problem with FICO scores last cycle wasn’t that they didn’t work, but rather that too many banks lent too much money to borrowers that had low ones. For that matter, credit scores are just one of many inputs lenders take into account in the underwriting process. Anyway, if Cagney really believes he’s developed superior underwriting metrics, such as where an applicant went to college, one wonders why the FICO people haven’t thought of them already, too, and folded them into their algorithms.
I’ve long been skeptical of the bank-disintermediating potential that FinTech companies are said to have. But I’ve also seen enough other industries become semi-obsolete via similar-looking innovations that I’ll keep my mind somewhat open. Still, even Kessler seems to have some doubts. It’s hard to lose money lending to Stanford grad students, after all:
But isn’t SoFi cherry-picking loans? Absolutely. Why can’t banks do this? Because if you use depositor money for loans, as all banks do, you fall under the jurisdiction of the Federal Deposit Insurance Corp. and the Community Reinvestment Act, which bans discriminatory credit practices against low-income areas, known as redlining. In exchange, banks use leverage, but that’s courting trouble.
SoFi doesn’t take deposits, so it’s FDIC-free. . . .
SoFi and its ilk may not fall under the regulatory oversight of the FDIC and OCC, but as Kessler notes later on, they are under the thumb of the CFPB, which hasn’t been shy about, say, using “disparate impact” as evidence of racial discrimination. Which is to say, the agency isn’t especially subtle in its approach. So soon enough, the SoFis of the world may have their fair share of regulatory and compliance—and, once the cycle turns, credit—headaches. Maybe I shouldn’t be keeping an open mind after all.
What do you think? Let me know!