In frontier markets, some 40% of SMEs do not have access to sufficient funding, and these markets face a EUR 2.5 trillion annual shortfall to achieve the Sustainable Development Goals (SDGs). In contrast, in Europe there is EUR 33 trillion in capital held by households, of which 12.3 million is seeking both yield and impact. Therefore the question is how the 12.3 trillion seeking investment could help cover the 2.5 trillion shortfall. This session looked at two cases where this question is actively addressed.
Koen THE explained that in Europe there is growing demand from retail investors to not only realise a financial return on investments, but also to have a positive impact. A major question is then if this can be realised not only at home but also in emerging markets. Lendahand was founded to assist responsible citizens in developed markets to put their money to work in emerging markets by realizing both a financial and social return through investments in Southern MFIs. This fits in very well with current socio-cultural tendencies in their home countries which stress responsible and inclusive life styles.
A study has indicated that idle surplus funds at home could yield a 20 times higher composite return overseas if invested in MFIs. Lendahand identifies investment opportunities and then seeks to raise and invest surplus funds through crowdfunding. At present there are 12 investees active in 11 countries. Overall, including non-MFI investments there are 46 active investees in 26 countries with a combined EUR 110M investment and a seven years track record. Last year’s Covid eruption slowed down the investment pace but also brought out an interesting shift in expectation patterns. Whereas institutional investors tended to adopt a wait and see attitude and became quite risk averse, individual investors accepted the additional risks and found that justification to invest more to enhance social impact and returns. In fact, Lendahand came to replace institutional investors in Mongolia. This is facilitated by personal investment considerations such as affinity with a particular investee country.
Per Van SWAAY next explained the investment strategy of TCX, which is based on hedging currency risks for MFIs and other capital providers, who borrow in foreign currency but lend on in local currency. Repaying international debt can be problematic if returns in local currency become insufficient to service international debt as a result of erosion or devaluation of that local currency.
To mitigate that risk, MFIs can insure that risk through hedging contracts: if the local currency slides away, those contracts cover the resulting losses. Its currency derivatives are backed by many bilateral and multilateral development banks and dedicated international microfinance investors. TCX now operates contracts in 78 currencies working with approximately 150 impact investors in financial institutions in emerging markets servicing their clients in local currencies.
The case study presented indicated noticeable differences in investment strategies. Whereas international investors mostly invest in local currency and the remainder in USD and less so in EUR, European crowdfunding platforms nearly exclusively invest in EUR only, thus protecting themselves from currency risk. Lendahand, being a crowdfunding platform, thus aimed to cover that risk through hedging with TCX, in a way protecting its own investees from that risk. However, for a platform without its own balance sheet it is not easy to find a hedging partner. Also, each crowd-originated deal has its own set of investors, which excludes netting between deals. At the same time, for TCX it is difficult to directly deal with MFIs due to a variety of reasons.
To make this work, a new strategy was designed between both parties, described as micro-hedges bundled into a swap with counterparty guarantees. The presentation included a schematic overview of that new strategy. Essentially, it now also allows Lendahand to invest in local currency, and the strategy is facilitated by German BMU.
This new strategy was presented as exactly in line with the so-called ‘Fintech 4 Good’ investment model which was designed to remove frictions in the system:
Van Swaay explained that this new model has good replication options for other crowd funders in Europe. However, more is needed to expand, first more guarantee providers are to be identified, especially for MFIs as counterparts, and in selected countries where the interest rate differential is prohibitively high, donors are invested to cover part of it so that it is more affordable for MFIs to borrow in their own currency.
The first question that was asked was about the returns that Lendahand is providing to its crowd investors. The response was that in their microfinance portfolio this amounts to some 2.5-4% in EUR, and in their renewable energy portfolio about 5.5-7%. Next year more funds will be raised.
The next question was whether Lendahand is open to investing in a solar energy project in partnership with an MFI? That is definitely what Lendahand would like to do. In fact they want to expand in clean energy, as operators in this area often already act as a small MFI to allow customers to link up and benefit from renewable energy option. Some of these may like to outsource this in order to continue focusing on their core business. Lendahand can work with both entities.