Why are some banks still opposed to alternative credit?
The financial sector in the U.S. grows more advanced and multifaceted with each passing day, yet certain long-established concepts still remain in place and can be difficult to challenge. Specifically in banking, the idea that credit should remain in the box, so to speak, only assessed using FICO and its many variants, along with other well-known scoring models.
"The banking industry appears reluctant to consider the idea of alternative credit as a viable assessment tool."
Alternative credit, meanwhile, does not appear to be in the wheelhouse of many traditionally thinking bankers. Let's explore the reasons for this and how that school of thought might be challenged in the future.
Banks wary of big risks
Even in 2018, the long shadow of the Great Recessions isn't far off in the minds of many traditional banks and institutional lenders. This is why their lending standards have remained fairly tight despite the economic recovery that has occurred since then. FICO has become deeply entrenched in their line of business as the end-all be-all of creditworthiness assessment. As such, there is limited willingness to rock the boat and evaluate loan applicants who have a limited footprint of traditional credit.
The threat of competition
American Banker noted that many of the biggest alternative credit proponents have been nonbank lenders. Banks and brokerages are just as aware as anyone in the financial field that such nontraditional financing institutions gained considerable steam by attracting loan applicants in need of capital while the conventional sources of funding were being extremely careful. Additionally, banks often assume more risk than alternative lenders when distributing loans.
FHFA considering change
Late in December 2017, the Federal Housing Finance Agency queried numerous U.S. lenders about potentially using an alternative credit report model for evaluating applicants in search of government-backed Fannie Mae and Freddie Mac mortgages. According to Financial Regulation News, credit unions support broadening the spectrum of credit-check tools. The interest of these institutions could foretell changes to banks' attitudes about alternative credit in the near future.