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Venture capital firms expect a surge in startups offering low-interest mortgages and other loans in the wake of the Fed's rate cut

TechBrunchBy TechBrunchSeptember 28, 20244 Mins Read
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When the US Federal Reserve lowered interest rates by half a percentage point last week, it was good news for venture capitalists who back struggling startups, fintechs, and especially companies that rely on loans for cash flow to operate their businesses. Ta.

These companies include corporate credit card providers like Ramp and Coast, which offer cards to fleet owners. Card companies make money from exchange rates, or transaction fees charged to merchants. “But they have to finance it with loans,” says Shel Mornaut, co-founder and general partner of fintech-focused firm Better Tomorrow Ventures.

“The terms of that loan have gotten even better.”

Affirm, the buy now, pay later (BNPL) company founded by Max Levchin, a member of the famous PayPal mafia, is a good example. Although Affirm is no longer a startup (it went public in 2021), its stock price has fallen sharply as interest payments have risen, going from about $162 in October to less than $50 per share from February 2022 onwards.

BNPL pays merchants the full amount upfront. Customers can then pay for the item in several installments, often without interest. Many BNPLs primarily make money by charging sellers a fee for each transaction processed on their platform, rather than interest on purchases. Their business model did not allow them to pass on the dramatically higher costs they incurred.

“When interest rates were zero, BNPL was making money handing over fists,” Mornaut said.

Affirm competes with many BNPL startups. For example, Klarna, a company that has been expected to IPO for years, won't be ready in 2024, its CEO told CNBC last month. Some BNPL startups didn't survive at all, like ZestMoney, which shut down in December. Meanwhile, other lending fintechs, such as business-building credit card company Fundid, have also shut down due to high interest rates.

Although it may seem counterintuitive, lower interest rates are also advantageous for the fintechs that provide the loans. For example, this is the case for car refinance company Caribou, predicts Chucky Reddy, partner and head of growth investing at QED Investors. Caribou offers 1-2 year loans.

“Their entire business is predicated on being able to move customers from higher rates to lower rates,” he said. Now that Caribou's financing costs have come down, it should be able to reduce the amount it charges borrowers.

Other short-term lenders expected to benefit include Goodleap, which offers solar panel loans, and Kiabi, a lender that specializes in “fix-and-flip” home investor loans. Like Caribou, they could pass on some of the interest savings to customers, leading to a surge in loan originations, said Rudy Yang, a fintech analyst at Pitchbook.

And no sector would be more helped by lower interest rates than fintech startups entering the mortgage industry. However, it could be a while before this recently run-down space is revived. Although the Fed's rate cuts were significant, interest rates are still higher than they were during the long ZIRP era that preceded it, when Fed rates were near zero. The Fed's new interest rate currently ranges from 4.5% to 5%. So loans available to consumers will still be several percentage points higher than the Fed's base rate.

If the Fed continues to lower interest rates, as many investors hope, many people who bought homes during high interest rates will look for better deals.

“The wave of refinancing is going to be massive, but it's not going to happen tomorrow or in the next few months,” said Kamran Ansari, venture partner at venture capital firm Headline. “A 0.5 per cent refinance may not be worth it, but if interest rates were to drop by 1 or 1.5 per cent, we would start seeing an influx of refinances from people who were forced to struggle with their mortgages.” Past numbers Over the years, the rate has gotten even higher. ”

Mr. Ansari expects mortgage fintech companies such as Rocket Mortage and Better.com to make a strong recovery after weak performance in recent years.

After that, there will almost certainly be an influx of VC investor money. Ansari also predicted a surge in new mortgage technology startups as interest rates become more attractive.

“Every time you see an area that's been dormant for four or five years, there's probably an opportunity for reinvention and updating the algorithms, and now AI-centric underwriting is possible,” he said. Ta.



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