Concumer Finance

Forget FICO, 3 Fintech Companies That Are Disrupting Consumer Credit

Fintech companies — those that combine finance and technology — have generated a lot of buzz in the public markets during the pandemic. Although they have been around for a while, they are fast becoming a part of everyday life. A study published in 2019 by Ernst & Young claimed the global rate of adoption had climbed to 64% from only 16% in 2015. The pandemic only reinforced that trend.

Although the term can relate to many different aspects of our financial lives, consumer credit is an area that has seemed especially vulnerable to disruption. After all, the credit report of 1 in 5 people contains an error, according to a study by the Federal Trade Commission. Although Fair Isaac Corporation (FICO) and other major players have offered changes, it may be too little too late. That’s why we asked three Fool contributors for the companies they were most excited about in the space. They offered Upstart Holdings (NASDAQ: UPST), Blend Labs (NYSE: BLND), and Rocket Companies (NYSE: RKT). Here’s why.

A couple sitting at the kitchen counter looking at their laptop.

Image source: Getty Images.

Software eats the credit score

Jason Hawthorne (Upstart Holdings): Upstart has a 21st-century approach to evaluating credit risk. It uses machine learning and more than 1,600 variables to arrive at better decisions. That benefits both banks and borrowers. The company’s cloud-based platform sits in the middle, connecting the two groups. That means it takes on none of the default risk of a traditional lender. Unlike some middlemen, the company is actually adding value to the overall system. The rates of approval are higher, and interest rates lower, while allowing its banking partners to access people it wouldn’t have been able to previously serve.

Despite the complexity of the artificial intelligence, the experience for a user is simpler. The company has consistently said at least 70% of its loans each quarter were fully automated. It is also the only fintech company to get a green light from the Consumer Financial Protection Bureau to make AI-based lending decisions. According to the agency, Upstart’s platform is leading to 27% more borrowers being approved with a 16% lower average interest rate.

As you might imagine, banks are lining up. As of the first-quarter earnings call, there were 18 banks and credit unions using the platform. That’s up from 10 when the company went public at the end of 2020. For now, it is powering decisions on personal loans. That’s a $92 billion market according to TransUnion. It’s generating fantastic growth. In the first quarter, the company reported revenue growth of 90% on a doubling of transaction volume.

Don’t expect that to slow anytime soon. Upstart continues to upgrade its algorithm — as it has for the past eight years — and bought automotive software provider Prodigy in March. Its digital retailing platform opens up the $626 billion auto loan business for Upstart. Investors will be on the edge of their seats when the Upstart reports earnings on Aug. 10. They’ll be listening for any improvements to the algorithm, new customers, and integration with Prodigy. In its short history, it has blown away all of the estimates. It might need to continue for the stock to keep climbing.

Digitizing the customer journey in banking

Keith Noonan (Blend Labs): Blend Labs is on a mission to simplify the world of consumer banking. The fintech company helps banks and financial institutions make their products easily accessible through online and mobile portals. The company already provides services to process loans based on data beyond FICO credit scores, and its flexible, cloud-based software platform could help financial institutions adapt to industry shifts being spurred by fintech innovators.

Blend completed its initial public offering last month, and the stock has gotten off to a bit of a rocky start. The company’s share price is down roughly 13% from market close on its first day, with volatility for the growth-dependent tech and financial services spaces being core catalysts for the pullback. However, investors with a buy-to-hold approach shouldn’t fixate on the volatility out of the gate. This is an innovative, founder-led company that could serve up big wins.

Blend’s core business revolves around helping established financial service providers modernize their offerings to compete in the digital age and provide flexibility that allows them to outmatch a new surge of competition from fintech players and non-bank lenders. The company has already built an impressive standing in the mortgage processing service, and it’s now building out its technology stack to facilitate growth in categories including personal loans, checking accounts, home equity, business loans, and other fields. Blend Labs is already processing an average of more than $5 billion in transactions on a daily basis, and it also has plans to expand into the commercial banking services space.

At the end of 2020, 31 out of the top 100 financial services providers in the country were employing the company’s tech to streamline mortgages, credit cards, and vehicle loans. With fintech providers increasingly looking at non-FICO based ratings and judging a wider pool of deep data sources to qualify services, Blend Labs could emerge as a pick-and-shovel play to benefit from the growth of alternative credit standards and loan instruments.

Rocketing into the future

Eric Volkman (Rocket Companies): There’s nothing like being both disruptive and powerful. Say hello to Rocket Companies, the twin-barreled parent company of not one but two well-known loan brands, Rocket Mortgage and Quicken Loans.

Currently, Rocket is the top home-loan originator in the U.S. One big reason for this is its longtime selling point: Those applying for a new mortgage or refinancing an existing one can do so entirely online (or, for those of us who just can’t tear ourselves away from our smartphones, through the company’s app).

While we’re used to doing everything from buying groceries to booking a car ride online these days, it’s helpful to remember that the mortgage industry remains stubbornly traditional in many respects. It’s still not unusual for potential home buyers to meet with a banker in person and fill out reams of paperwork in order to secure their mortgage.

Rocket’s digital-first approach not only makes the process easier for the would-be borrower, but it also greatly eases the drain on company resources. After all, with a sturdy electronic foundation there is no need for a large army of commission-earning, flesh-and-blood loan officers.

Another reason Rocket has such scope and prominence in mortgages is that it actively sells the loans it originates to third-party investors on the secondary market. If the borrower defaults, Rocket isn’t left holding the bag. This is a constant worry that traditional mortgage lenders have had to live with for many decades.

As a company, Rocket is very much in the right place at the right time in history. U.S. interest rates are historically and persistently low these days. This means cheaper mortgages, of course, and hence higher consumer demand. In its most recently reported quarter the company’s revenue grew by nearly 54%, a monster leap by any standard.

For real estate bulls who believe the hot demand for U.S. housing will persist, Rocket is a stock very much worth considering. This mortgage market disrupter stands to get even stronger and more disruptive, and soon.

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Eric Volkman has no position in any of the stocks mentioned. Jason Hawthorne owns shares of Upstart Holdings, Inc. Keith Noonan has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Upstart Holdings, Inc. The Motley Fool has a disclosure policy.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.