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Credit Scoring: Ripe for Disruption

-by Kiran Kalmadi and Durga Prasad Balmuri

Continuing with our David Fintechs Vs Goliath Banks series, this blog focuses on another important disruption, i.e. Credit Scoring. With each passing day, the probability of our mailboxes being inundated with emails from various credit scoring start-ups is on the rise. E-mails advertising, 'Get a free credit check-up online', 'Get your credit score and analysis online'; and 'Unlock your credit potential' clog inboxes compelling us to activate spam filters! Having said that, these e-mails are also indicative of the rise of credit scoring start-ups. A new generation of Fintech start-ups like Credit Karma, Credithood, Kreditech, and Aire have begun to challenge industry behemoths like FICO, Experian, Equifax, etc.

Now, why credit scores? Credit scores are essential in many countries. No score or an insufficient credit score can affect a person's ability to buy a car (auto loan), purchase a home (home loan), rent a house (landlords check credit scores), or even gain romantic alliances (read the Federal Reserve study of Credit Scores and Committed Relationship)! This problem affects migrants, recent graduates (students), new entrepreneurs, etc. and it is widely estimated that there are 53 million Americans with no credit scores. Likewise, in many countries a good number of population do not have credit scores. Over the years, there have been many attempts to provide credit scores, but the issue continues as most of the solutions are based on historical transaction data of loans, credit cards, and mortgage payments. Thankfully, traditional credit scoring companies have also started calculating credit scores on few more additional metrics such as utilities payments, rent payments data, etc. However, there is also a strong need to better assess credit risk by creating accurate customers profiles and assessing their eligibility using multiple factors -- educational background, job profile, social profile, and more.

New-age scorers

The onset of on-demand services ushers in a requirement to assess an individual within few minutes. This assessment must determine if he/she should receive credit and at what rate. It's therefore predictable that new-age scorers are leveraging big data algorithms, automated processes, cloud computing, and analytics (consumer behavior analytics) to generate scores for those who have been ignored all these years. What's more, to calculate credit scores, these firms are also analyzing new and modern data sources such as education history (course studied, university name, postgraduate income, etc.), mobile phone statistics, monthly cash flows, cable bills, property records, employment background, online behavior and preferences (how active the user is online, sites visited frequently, product categories looked at), and history of bill payments. The bottom line is that this is an ongoing effort and new-age Fintech firms that have started on a clean slate are finding innovative ways to provide people accurate credit scores. For instance, Social Finance (SoFi) a lending startup, said that it is moving away from FICO scores and called this strategy a 'FICO Free Zone.'In the process, fintech firms  are bringing a lot of unbanked population to the mainstream. Simultaneously, the existing credit scoring systems in developing countries could transform as empowered customers and lenders will demand faster and more innovative scoring methodologies, thereby disrupting the market. Only time will tell if this is just a one-off case or whether it will evolve into a trend!

Stay tuned for more action.

P.S: For those interested in knowing what happened to our inbox inundation, our next task is to set up our spam filter!

Comments

Very nice article Kiran and Durga. A lot of work is needed in this space. The existing credit rating agencies don't seem to take into account recent transactions and new data available out there. And, the process to correct the data is also so cumbersome. I'm sure nimble Fintechs will use data and technology better to provide accurate ratings.

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