Why non-bank lenders can generate outsized returns

Non-bank lenders have grown over recent years particularly in segments underserved by traditional banks. Banks are limited in their ability to provide short-term loans within short settlement periods or to borrowers whose financial position or borrowing activities do not fit neatly within a banks’ credit requirements. This shortfall of flexible finance creates a gap in the Australian property lending market. By being a flexible and prompt lender focusing on short-term loans, non-bank lenders can realise returns at a premium compared to bank lenders for similar Loan to Value (LVR) investments enabling outsized returns relative to the underlying risk. This approach strikes a balance between accessibility and prudent risk management.

The key drivers for demand for non-bank lenders include:

1. Quick and flexible finance: non-bank lenders excel in providing quick financing solutions compared to lengthy processes in traditional banks, crucial in the time-sensitive property market. For investors and developers, quick access to funds can mean the difference between seizing an opportunity and missing out. This level of agility allows non-bank lenders to charge higher interest rates, translating into greater returns for the lenders and more options for borrowers.

2. Inclusive credit approach: traditional banks have rigid credit requirements while non-bank lenders have the flexibility to be more inclusive while still maintaining an appropriate risk profile. This inclusivity opens the door for a broader range of borrowers.

Contrary to the assumption that greater flexibility leads to a much higher risk profile, studies indicate a different reality. A 2023 RBA study found that non-banks' share of high LVR loans was lower than traditional banks. Both RBA and Moody's (2002) have found that loan arrears of non-banks are at historically low levels, demonstrating a responsible approach to lending.

Non-bank lenders play a key role in the property finance sector by serving underserved markets. Their ability to provide quick turnarounds, flexible financing options and accommodate a wider range of credit profiles enables them to generate premium returns. For borrowers in the property sector, this means more options and opportunities, and for investors in these non-bank lending institutions, it means the potential for higher returns on their investments.