BD Credit Management Insight (Feb 23 2023)

Navigating a risky market

stimulate the economy.

Index highlights increased rate of first-time defaulters

Results from the Experian 2022

living and the cost of debt across the market. This severely impacts their affordability, which limits their access to formal credit and could encourage them to seek credit from informal providers in the unregulated market.

In addition, Nersa-approved electricity tariff increases of 18.65% and 12.74% in 2023 and 2024 respectively will impose additional upward pressure on inflation and further strain household finances. This could suppress consumer spending for longer at a time when the economy needs more spending to support businesses and

Lenders need to strike a balance between their responsibility to fuel the economy by extending credit to consumers and businesses to purchase goods and assets while maintaining good credit policies to reduce bad debts, explains Gary Palmer, CEO of Paragon Lending Solutions. Banks and nonbank lenders will need to remain circumspect when lending in the current environment. As such, they will adjust their lending models accordingly when assessing credit risk and determining affordability.

When adjusting credit models to factor in the various risks at play, Palmer says that credit committees at banks and nonbank lenders may opt to no longer grant credit to businesses or consumers that previously qualified based on changing affordability and serviceability metrics.

In other instances, lenders may opt to adjust their loan-toasset value to balance risks to keep lending in a responsible manner he adds.

As credit providers have

their own models for assessment, each has the flexibility to tighten or loosen certain variables to adjust for different risk levels, elaborates Ayanda Ndimande, Business Development Manager of Retail Credit at Sanlam. Often, decisions are based on credit policy and behavioural scorecards. Risk management plays an important role in credit, and it aims to protect both the creditor and the consumers from high credit exposure.

“In a recessionary or high inflation environment, creditors typically tighten scorecards and increase the minimum threshold so that only customers with good affordability qualify. This is necessary to ensure consumers grappling with the higher cost of living can absorb higher monthly repayments as there is potential for further interest rate hikes she says. Lenders in the business space are also tightening credit risk assessment criteria in light of these heightened risks, says Frank Knight, Debtsource CEO. Debtsource has shifted from a more liberal to a more

conservative credit stance in response to a noticeable increase in credit risk.

Statistically, Debtsource recorded a year-on-year increase of about 30% on credit facilities assessed over the past 12 months to the value of roughly R61bn. That almost exactly mirrors the latest liquidation statistics published by Stats SA, which reflects an increase of 30.3%, albeit with distinctly different figures, explains Knight.

“These figures represent an increase in the endemic risks in the market, which necessitates underwriting for companies that did not require this step previously While most credit insurance companies reported relatively low claims in 2022, the sector experienced an increase over the past quarter due to the prevailing economic and financial pressures. In response, our overall decline ratio has increased from a rate in the mid-teens late last year to the early twenties presently. This represents an overall increase in rejections of about 20%, says Knight.

Q4 Consumer Default Index (CDI) paint a worrying picture of consumers under immense financial pressure. “The CDI measures the rate of first-time defaulters, and things are not looking good, says Jaco van Jaarsveldt, Head of Commercial Strategy and Innovation at Experian.

The macroeconomic factors affecting consumers include poor economic growth, record load-shedding, rising inflation and interest rates, and belowinflation salary increases.

The net impact is a rise in first-time defaulters, with the CDI Composite Index deteriorating from 3.52 in December 2021 to 3.93 in December 2022. Total outstanding debt averaged R2.09-trillion in Q4 2022, with the average new default balance reaching a substantial R20.49bn, says Van Jaarsveldt. In addition to the quantum of outstanding debt and rising rate of first-time defaulters, another trend that first emerged in Q1 2022 continues to cause concern when analysing the most recent data.

We are seeing the biggest financial stress among the top Luxury Living and Aspirational Achiever financial affluence segmentation (FAS) groups, and at the bottom among the

Yearning Youth and Laboured Living groups, he says.

Middle-income earners

the Money-Conscious Majority and Stable Spenders FAS groups are faring better. This trend stands in stark contrast to the 2008-2009 global financial crisis when the highest income earners were least affected.

Data from the Q4 2022 CDI report shows a deterioration in first-time defaults on home and vehicle loans. The Home Loan Index deteriorated from 1.57 to 1.70, while the Vehicle Loan Index worsened from 3.78 to 3.83 between December 2021 and December 2022.

Consumers owed R1.09trillion on home loans in Q4 2002, with R4.64bn in first-

time defaults experienced during that period. First-time defaults on vehicle loans reached R4.57bn, from a total of R476bn in outstanding debt, says Van Jaarsveldt. “Traditionally, default rates in these product categories are lower as these loans are only accessible to higher income earners. These consumer segments are experiencing significant financial distress due to higher interest rates. Consumers under the age of 35 in the Luxury Living and Aspirational Achievers FAS groups are the major contributors to worsening firsttime default rates. Many had never experienced high interest rates. Those who were overexposed and geared to the hilt were ill-prepared for the pace and scale of the rate-hiking cycle,” says Van Jaarsveldt. The higher cost of living and debt servicing costs are now forcing consumers in every segment to rely on personal loans to finance living expenses. Total outstanding debt on personal loans surpassed preCovid levels, reaching R314bn at the end of 2022, with R7.4bn in first-time defaults between October and December. And with additional interest rate hikes on the cards, the pressure on consumers in every segment will continue to mount.

Regulated pricing review overdue

All credit providers are required to comply with the National Credit Act (NCA), which was implemented to transform the South African credit market.

The NCA was introduced in 2007 to curb reckless lending by requiring registered lenders to conduct full credit assessments, validate an applicant s stated income and ensure they can afford the monthly repayments.

These regulations ensure consumers are treated fairly and protected against reckless lending practices, explains Brett van Aswegen, CEO of Wonga.

Concerns have emerged from various industry players that the current credit pricing

caps stipulated in the act have created an unintended consequence by reducing access to credit, especially among lower-income earners.

Access to regulated credit gives people the ability to augment their income to better manage expenses, invest in education or start a small business. It can also help improve their standard of living while building a credit record, which could give them access to better credit terms over time.

Unfortunately, credit industry players are limited by the current pricing stipulated in the act, believes Van Aswegen.

“The capped pricing stipulations in the regulations

have priced many South Africans out of the formal credit market as lenders cannot take on the risk of default due to the low margin in the capped fees. The majorconcern is that the people who could benefit most from a loan are typically declined, which pushes them towards the unregulated market, where there is no oversight, no consumer recourse and no contribution to shared consumer financial data at credit bureaus. The fees in the pricing regulation have not been reviewed since 2015 and have not kept up with inflation. A pricing regulation amendment is long overdue, he says.

Jaco van Jaarsveldt pressure

Alfred Ramosedi affordability

INSIGHTS: CREDIT MANAGEMENT

Tech drives safer, faster credit decisions

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Digital solutions help to enhance the customer experience

Multiple converging factors are driving the digital transformation agenda in the lending space as credit providers look to unlock greater operational efficiencies and meet evolving consumer demands.

In the prevailing macroeconomic environment, embracing digitalisation has become a necessity to accurately assess risk, as factors such as rising interest rates, higher inflation, low economic growth and record loadshedding severely impact consumers and businesses.

Moreover, credit providers need to respond to shifting consumer expectations around customer experience and engagement to improve responsiveness and gain a competitive advantage over technology adoption laggards.

“Less digitally savvy

organisations will struggle to keep up with those that have already embraced digitalisation to improve the accuracy of credit decisioning and streamline the application process, says Mark Wells, Chief Customer Officer at Experian Africa.

A significant proportion of businesses seemingly understand the important role investing in digital capabilities will play in future-proofing their operation.

According to Experian s 2022 Business and Consumer Insight Report, research conducted by Forrester reveals that 69% of business respondents deemed investing

to digitalise core business processes as a critical or high priority. Digital solutions help reduce the time to decision to enhance the customer experience and provide more personalised service while also reducing the risk of fraud, which is invaluable to organisations at a time when fraudulent activities and cybercrime are increasing globally.

On the front end, factors such as the simplicity of the application process and providing better security are becoming increasingly important to business success, as 58% of consumers abandoned an application in the past year due to the amount of information they needed to input, and 63% were concerned about fraud when interacting online, according to the Experian report.

Moving from a manual process to a fully digital onboarding process can create a smoother, more personalised and quicker experience that can also protect customers against increasingly sophisticated fraud, adds Wells.

For example, Experian s research found that 64% of

businesses identified reducing friction around verifying customer identity as a top business priority. Our study found a simple process was more important to consumers than the speed of access to funds and the security of the provider, and was more important than ensuring they could afford the repayment plan, he says.

The industry is also witnessing a shift from using individual technologies and operational capabilities to applying a combination to consumer journeys in the right sequence, says Ayanda Ndimande, Business Development Manager of Retail Credit at Sanlam. This is done to achieve compound impact and deliver a good client experience. For example, digital technology platforms can provide consumers with access to their credit report, educational content, a credit coach for guidance on their credit management journey, debt rehabilitation and access to other financial planning solutions, explains Ndimande. The aim is to empower consumers to understand and manage their credit effectively.”

Cybercrime and fraud on the rise

The threat posed by fraudsters is an ever-present risk. However, tougher economic conditions typically cause a spike in fraud and transactional crimes as financial pressures on consumers and companies cause lapses in judgment or business processes and controls

Fraudulent schemes targeting businesses and consumers take various guises, with digital fraud, cybercrime and credit application fraud posing prolific threats.

Cybercrime has become one of the fastest-growing forms of fraud worldwide as people spend more time online, and SA is a popular target. According to a 2022 report by the Netherlands-based online security company Surfshark, the country ranked sixth globally in terms of cybercrime density.

Human error due to a lack of awareness about potential risks, and a lack of training and understanding regarding best practices, remain the major vulnerability for consumers and businesses alike. The number of customers being scammed by people impersonating reputable credit

providers is increasing weekly while the digital manipulation of key personal documents such as identity documents, pay slips and bank statements is an increasing phenomenon,” says Alfred Ramosedi, CEO at Bayport.

According to TransUnion s South Africa Q4 2022 Consumer Pulse Study, money and gift card fraud was the top form of digital fraud schemes (40%) among those targeted in the past three months, followed by third-party seller scams (33%) and phishing (28%), which were up four and two percentage points from the prior quarter, respectively.

The TransUnion study highlights that incidents were highest among the Gen Z cohort, with 40% of respondents in this generational segment targeted by a digital fraud scheme.

Additional study insights reveal that 89% of respondents were concerned about sharing personal information. Among these consumers, 78% were worried about having their identities stolen.

Informing and educating consumers through every means and channel available is essential to combat rising cybercrime and fraud levels, says Ramosedi.

From a business perspective, fraudulent credit applications are on the rise, says Debtsource CEO Frank Knight.

An increase in fraudulent credit applications is typically a seasonal trend in the lead up to the Christmas period.

However, we have seen a nonseasonal year-on-year increase in the region of 15% since the start of the year.

Currently, about one in every 300 applications processed by Debtsource on behalf of customers contains some potential fraudulent

activity

The impact of this is far wider than just the actual direct risk. The scale of fraud is affecting businesses from a credit decision perspective, because they have to scrutinise every transaction far more carefully says Knight.

To combat this fraud, Debtsource determines how the application came into being, confirms if the salesperson visited the premises and checks who signed the credit application form. The credit management provider now also compares ID documents to those filed with Home Affairs as these documents can be falsified.

The watch list of red flags we scrutinise is constantly growing. It is now at a point where client debtors ask us to put them on our watchlist, which compels us to confirm any application they process, says Knight. The faster productivity improves using technologies such as AI and the hungrier people become for additional data sources, the more we have to insert manual interventions to slow down the application to help prevent fraud.

Consumers turn to credit to make ends meet

Appetite for credit remained high as consumers grapple with stagnant household incomes and the rising cost of living.

Consumers have already shifted spending from discretionary to essential items the TransUnion Q4 2022 Consumer Pulse Study found that 67% of respondents cut discretionary spending in the previous three months.

And many are using credit to fund this spending and navigate the economic pressures. Data from the TransUnion Q3 2022

South Africa Industry Insights Report shows that overall credit originations increased 14.5% year over year (YoY) in Q2 2022 (the most recent quarter available due to reporting lag), with applications for new credit increasing 13.1% YoY. These trends are not positive as they indicate South Africans are turning to credit to make ends meet in the current high inflation environment, says Weihan Sun, Director, Financial Services Research and Consulting at TransUnion Africa. This demand prevailed across credit cards, nonbank personal loans and clothing accounts.

Enquiry volumes for credit cards increased 9.6% YoY in Q2 2022, and lenders are meeting demand originations for the

Weihan Sun headwinds.

period rose 39.4% YoY.

However, lenders are opting to offer lower loan amounts and limits on revolving facilities to mitigate risk average limits on new cards were 5.2% lower YoY. This trend will likely continue into Q4 2022 and Q1 2023, suggests Sun.

Credit providers are also more likely to turn off the taps as risks rise. As such, issuers will closely monitor how consumers use credit cards in the current environment.

In contrast, clothing accounts and retail revolving accounts saw higher new account limit amounts, while bank and nonbank personal loans also saw increased opening amounts.

Despite this increased demand for credit amid a tougher economic climate, delinquencies improved as

consumers paid down debt to mitigate the financial impact of rising interest rates.

Paying down debt faster remained a priority for 37% of survey respondents. As a result, outstanding balances across all lending products decreased by 2.3% YoY in Q3 2022, and balances on most unsecured products returned to prepandemic levels.

Consumers anticipate further economic headwinds and are adopting a conservative stance on spending and indebtedness. They remain concerned about how additional interest rate increases expected this year will impact their wallets, despite being smaller and less frequent than those implemented in 2022, says Sun.

Lenders are also being more proactive in account management, particularly as younger and riskier borrowers drive new business, suggests Sun

Consumers are under financial pressure and will increasingly depend on credit to meet their day-to-day expenses. However, trends from our data including the improved delinquency performances, reduced discretionary spending and fewer large purchases show they are doing so with caution.

On the back end, businesses can streamline workloads and reduce manual intervention by introducing more automation into operational activities. Investing in technologies such as artificial intelligence (AI), machine learning (ML) and cloud-based software creates opportunities for credit providers to access advanced capabilities such as analytics and task automation, which can reduce human error, and

enhances the ability to analyse and interpret vast amounts of data from multiple sources, including alternative data sources. Additional research findings

62% OF COMPANIES BELIEVE AI AND ML ARE TRANSFORMING THE WAY THEY DO BUSINESS

published in the Experian report showed that 62% of companies believe AI and ML are radically transforming the way they do business

The real value of technology in the lending industry is the ability to process, manage and interrogate large volumes of data to understand customer needs and behaviours. These insights subsequently inform lending criteria and collections mechanisms, says Bayport

Navigating the New Normal

To produce growth amid economic uncertainty, businesses must recognise emerging potential, mitigate rising risks, and meet the heightened expectations of modern customers. Failure to do so can negatively impact future revenue, increase bad debt and lower shareholder value — potentially putting your reputation at risk.

As a leading information and insights company, TransUnion can help you confidently provide friction-right digital experiences by combining advanced analytics with enhanced trended credit data and robust fraud-fighting solutions.

Having a job does not automatically mean having money

Most employed South Africans cannot afford their monthly living expenses. This is an employee wellbeing issue and an employer responsibility: employees who are in financial distress struggle to be productive, are disengaged, and unable to maintain positive workplace relationships.

THE RESULT? Companies struggle. The national economy suffers.

THE SOLUTION? Bayport’s workplace financial wellness programme that offers employees practical debt relief combined with financial skills and knowledge.

In partnership with employers, Bayport delivers social impact and financial wellness.

CEO Alfred Ramosedi. Within this environment, businesses that prioritise investment in digital transformation for their internal and customer-facing processes become more appealing to consumers and better equipped to prevent fraud, suggests Wells. The result is a greater chance of meeting these expectations with more convenience, simplicity and security, he adds.

Mark Wells expectations

Frank Knight red flags.