The Lending Evolution - Preparing for Sustainable Consumer Lending Growth

CONSUMER LOAN ORIGINATION SYSTEMS MARKET UPDATE

CEB TOWERGROUP | RETAIL BANKING

THE LENDING EVOLUTION: PREPARING

FOR SUSTAINABLE CONSUMER LENDING

GROWTH An International View on

Consumer Loan Origination Systems

Market Update Abstract*

*For full copies please contact Peggy Doss at CEB TowerGroup

January 2014

© 2014 The Corporate Executive Board Company. www.executiveboard.com

2



KEY MARKET TRENDS

While the economic picture has not been entirely rosy over the

past half-decade, the US’ consumer-driven economy is

improving. The IMF projects that real GDP growth in the US will

accelerate to 2.6% in 2014 from an estimated 1.6% in 2013.

Although the unemployment rate still remains above average,

it has fallen to 7.0% from a high of 10.0% in 2010. Median

household income also rose by a healthy 2.7% to reach its

highest point since 2008 (Fig. 1). The US housing market, one

of the worst-affected sectors of the financial crisis, is gaining

traction in terms of home price growth (Fig. 2), and home sales

are low but growing. However, recent new lending volume

growth was driven by refinancing of existing mortgages, and

this financing is plummeting as interest rates increase. Lenders

are trying to replace this lost business in two key areas: First,

automobile lending remains the healthiest and strongest

growing segment of consumer lending heading into 2014.

Second, home equity lending (second lien mortgages) has

begun to grow slowly again as home price growth increases

available equity for homeowners to borrow against.

Figure 1

US Median Household Income

Median Income for a Family of Four in USD, 2009 – 2012

$49,777

$49,277

$50,054

$51,404

$48,000

$49,000

$50,000

$51,000

$52,000

2009 2010 2011 2012

140

135 136

145 146 146

152

160

164

135

140

145

150

155

160

165

Q32011

Q42011

Q12012

Q22012

Q32012

Q42012

Q12013

Q22013

Q32013

Source: US Census Bureau, 2012. Source: S&P Case-Shiller Index, 2013.

EXECUTIVE SUMMARY

Stepping out from the shadows of the recent financial crisis, lenders are now seeing a sharp rise in long-term interest rates

from absolute lows one year prior. Growth and opportunities for consumer lending are largely driven by emerging market

economies, yet tempered by demands associated with increased compliance requirements. In order to ready systems for

expected lending volumes and unexpected regulatory change, CEB TowerGroup recommends banks take the following

actions:

1. Leverage Advanced Analytics Capabilities: Identify additional lending opportunities and optimize pricing while

minimizing risk by aggregating alternate data sources and creating more custom consumer risk profiles.

2. Extend Mobile Banking Capability into Retail Lending: Understand the potential ROI of mobility for lenders and

improved service for borrowers by identifying the most important mobile lending use cases.

3. Modify LOS for Continuous Regulatory Change: Integrate new data, analytics, workflow and reporting capabilities for

ongoing regulatory change given new legislation, as well as accessibility demands by business users.

Figure 2

US Composite Housing Prices of 20 Metro Areas

Indexed at Year 2000 = 100, Q4 2011 – Q3 2013

= 2.7%

POSITIVE OUTLOOK FOR US GROWTH DESPITE HEADWINDS


3



US CREDIT GROWTH WILL REMAIN SLOW

While the more stable economic environment has encouraged

consumers to take on fixed loans to finance home purchases,

renovations, cars, and other durable goods, they continue to

avoid or pay down higher interest rate revolving debt. Data

from the Federal Reserve shows that although outstanding non-

revolving consumer credit balances have risen by 17% to

$1.97 trillion since 2010, revolving credit balances have

actually fallen by 3% to $816 billion(Fig. 3).

Results from the Fed’s fourth quarter 2013 Senior Loan Officer

Survey also show that demand for auto loans far outpace the

demand for credit cards, mortgages and other consumer

credit. On the one hand, this trend could be viewed as

welcome news, reflecting the new American consumer’s more

sensible purchasing decisions and paydown of high debt levels.

On the other hand, this deprives lenders of higher margin,

though often riskier, credit products.

Ironically, because of the unexpectedly strong recovery of the

economy, this era of robust growth for US lenders may soon be

slowing down. With the US economy gaining momentum, the

Federal Reserve will likely tighten easy monetary policy by

ending Quantitative Easing (QE), and raise benchmark interest

rate targets in response to heightened inflationary

expectations. Even though the Fed has not moved yet,

anticipation of action has already caused rates to rise (Fig. 4).

$1,682

$1,773

$1,922

$1,974

$841

$843

$846

$816

$0 $500 $1,000 $1,500 $2,000 $2,500 $3,000

2010

2011

2012

2013YTD

Non-Revolving Revolving

Figure 3

Outstanding Consumer Credit

In Billions USD, 2010 – Q2 2013

Source: US Federal Reserve, 2013.

Source: Federal Reserve; Mortgage Bankers Association; CEB analysis.

Figure 4

Selected Loan Interest Rates

Annual Averages in Percent

1%

2%

3%

4%

5%

6%

7%

2010 2011 2012 2013E 2014P

New Car Loans 10-Year Treasury

30 Year FRM Prime Rate

REACHING THE BOTTOM IN EUROPE

In the European Union, vigorous growth is elusive. Moreover, it

is uncertain as to whether the most acute chapters of the

Sovereign Debt Crisis have finally passed for many countries.

Recent figures released by Eurostat show that the European

Union as a whole officially exited recession in the second

quarter of 2013, and in the third quarter eked out a 0.1%

gain when compared to the previous period in 2012.

The worst-affected countries such as Greece, Ireland, Portugal

and Spain remain mired in turmoil, and while many of the

continent’s largest economies have bottomed out, conditions

are still far from improved. Recent revisions to the OECD

forecast cut global economic growth to 0.5%, 2.7%, and 3.6%

for 2013, 2014, and 2015 respectively, despite a more

positive forecast in May 2013.

The OECD concludes that this weaker outlook for coming years

is a direct result of an expected slowdown in large developing

economies in preparation for the eventual reduction in the US

Federal Reserve’s stimulus plan. The IMF’s GDP forecasts for

the EU’s largest members indicate that the fund expects the

recession to end across all five of the largest EU economies by

2014, leaving some member states with slightly warmer

outlooks. However, these figures overall are low by global

standards for a bloc of 500 million people with a combined

GDP of $17.3 trillion, and a dozen EU countries remain mired

in recession.


4



A LONG ROAD TO RECOVERY FOR EUROPEAN DEMAND

Prospects for growth in consumer lending in Europe remain dim.

Although economies as a whole may be expanding, many

consumers still struggle to maintain ever-slipping standards of

living. The chief issue that EU member states must handle is the

severe unemployment crisis. Even with the nascent recovery in

some countries, unemployment rates continue to rise, reaching

12.1% in the euro zone (Fig. 5). In some countries such as

Spain, unemployment rates have reached Depression levels,

topping 20%. Meanwhile youth unemployment across Southern

Europe nears 50%. Across the continent, governments are

finally introducing structural reforms to improve labor

flexibility and increase employment. The future economic

prospects for the EU will ultimately depend on the passage of

these reforms and resolving the sovereign debt crisis.

Consumer finance growth is also constrained by the weak

capital position of many financial institutions due to delinquent

sovereign debt. This limits institutions ability to increase retail

lending relative to commercial and sovereign lending.

Source: “World Economic Outlook” October 2013, IMF.

2011 2012 2013(P) 2014 (P)

Brazil 2.7% 0.9% 2.5% 2.5%

Russia 4.4% 3.4% 1.5% 3.0%

India 6.3% 3.2% 3.8% 5.1%

China 9.3% 7.7% 7.6% 7.3%

South

Africa 3.5% 2.5% 2.0% 2.9%

Figure 5

Euro Area Unemployment Rate

Average Rate per Year, 2010 – 2013 YTD

Source: ECB September 2013

10.1% 10.2%

11.4%

12.1%

9%

10%

11%

12%

2010 2011 2012 2013 YTD

Figure 6

Annual GDP Growth Trends for BRICS Countries

EMERGING ECONOMIES: SHIFTING INTO LOWER GEARS

Brazil, Russia, India, China and South Africa, together

known as the “BRICS”, are five of the largest emerging

market economies. These countries have been increasingly

stronger engines of global economic growth over the past

decade-and-a-half. Yet now, as developed world growth

is increasing, these emerging markets are faltering. Some

of the slowdown is purposeful, as in the case of China,

which is rebalancing its investment-driven economy toward

domestic consumption. This bodes well for consumer loan

growth and financial institution investment in lending

systems. In India, the slow progress of political and

economic reforms, challenges modernizing infrastructure

and a falling local currency have reduced growth. Although

their prospects are somewhat diminished, emerging markets

still offer the greatest potential to lenders seeking to new

customers. The rewards will be rich if they can

simultaneously manage higher political, economic, and

social volatility.


5



Automated Decisioning 75%

Automated Task Assignment 88%

Business Intelligence Tools 100%

Collateral Management 100%

Credit Risk Scoring 73%

Document Generation 100%

GUI for BPM 94%

Islamic Lending 88%

KYC/AML Tools 75%

Lead Generation 69%

Loan Pricing 69%

Management Dashboards 50%

Multi-Channel Origination 88%

Multi-Currency 88%

Multi-Language 94%

Operational Reporting 81%

Prequalification 81%

Rate Quotes 94%

FEATURE AUDIT

SCOPING VENDOR OFFERS

Retail banks benefit from more informed decision making.

Banks looking to expand lending portfolios and improve loan

pricing and decisioning are turning to loan origination systems

that incorporate more data into the origination process. More

information, used in the right way, can lead to informed

decision making and accurate, real-time pricing of loans. Data

combined and analyzed in a time-efficient manner helps banks

to individualize pricing per loan and per borrower, rather than

in groups. Additionally, the ability to process multiple loan

types on a single system represents a market-leading system

feature. CEB TowerGroup expects advanced risk scoring and

analytics to play an important, forward-thinking role in loan

origination technology, so we suggest focusing on investing

in those key complementary attributes.

Standard Native Feature Premium Native Feature Premium Third-Party Feature Not Offered

FICO

FICO Origination

Manager

Percent of Vendors

Offering as a

Standard Native

Feature


6



CUSTOMER SUCCESS STORY

FICO’s client, a top 10 US bank, needed to adapt to

the market shift in the consumer and small business

lending space post 2007. To do so would require an

integrated set of decisioning and analytic capabilities

to provide value to the customer. Prior to

implementing the solution, the bank made quarterly

policy adjustments which could lead to costly mistakes.

FICO’s Origination Manager helped ensure real-time

customer responses to credit products offered, with

capabilities to adjust policies week-by-week. The

solution also granted the bank the ability to deploy

policies, score models, and pricing offers as a set of

business rules. The system had access to internal and

external data sources, creating a learning loop that

helps users execute the changes in a volatile market.

Through the implementation, acquisition volume

increased three-fold. Cross-sell penetration within the

bank’s customer base improved by 15% and the bank

additionally observed an increase in credit card

usage, with overall balances up by 8%.

FAIR ISAAC CORPORATION (FICO ORIGINATION MANAGER)

KEY STATISTICS

Founded: 1956

Company Type: Public

Headquarters: San Jose, California

FY 2013 Revenue: $743.4 million

Full-Time Employees: 2,500

FIRM OVERVIEW

Fair Isaac Corporation (FICO) offers predictive analytics solutions

to more than 5,000 businesses worldwide with offices in 12

countries. In the past two years, FICO made four major

acquisitions, including Entiera, Adeptra, CR Software, and

Infoglide. These acquisitions add new capabilities to FICO’s

product suite, including mobile customer engagement and risk

intervention, cloud-based open-source PaaS, social link analysis,

and collections and recovery.

PRODUCT OVERVIEW

FICO’s Origination Manager contains four modular components

which clients can choose from depending on their infrastructure.

The four modules include an application processing module (APM),

decision module (DM), data acquisition module (DAM), and

analytic module (AM). Together, the modules facilitate the process

of submitting a credit application, gathering additional data, and

applying automated credit policies to evaluate a prospective

customer and make a final decision. Origination Manager targets

Tier 1, 2, and 3 lenders.

RECENT UPDATES

FICO Origination Manager 4.5, released October 2013, builds

upon open source technologies and extends the Application

Processing Module (APM) beyond Websphere to include the

RedHat technology stack. The new FICO Application Studio (a

rapid application development platform) delivers an intuitive

design environment enabling creation and management of the

system’s User Interfaces, Workflows and Data Model.

Additionally, the automated build and staging processes across

environments reduces errors, allows faster change cycles using one

click deployment, as well as offers performance management and

system monitoring.

CEB TowerGroup View

FICO’s recent acquisitions and product

enhancements have increased its stature as a

software developer and innovator. The enhanced workflow

capabilities and modular design will appeal to many large and

medium-sized institutions, while the new mobile and cloud

capabilities will appeal to institutions of all sizes. In our full

Consumer Loan Origination Systems Technology Analysis, FICO

received two “Best-in-Class” achievements in the Loan

Decisioning and Enterprise Support categories.

80%

Installed

GLOBAL COVERAGE

Source: FICO

CUSTOMERS BY SERVICE MODEL

10%

ASP/Hosted

10%

SaaS/Cloud

Covered

Not Covered

The Lending Evolution - Preparing for Sustainable Consumer Lending Growth

Business

Transcript of The Lending Evolution - Preparing for Sustainable Consumer Lending Growth