For many homebuyers, applying for a mortgage is stressful. The paperwork and documentation requirements can be daunting and time intensive. It’s therefore understandable that borrowers seek easier, simpler ways to submit their loan applications. By the same token, it makes sense that online lenders are becoming increasingly popular, as more borrowers are drawn to their faster, more convenient application process. But the ascent of these “fintech lenders,” although driven by improved customer service, does not come without risks for the mortgage market. One source of risk is that a small group of leading lenders make most of the loans, potentially crimping competition within that part of the mortgage market.

To show how much the mortgage market has changed, Philadelphia Fed Visiting Scholar Dean Corbae, Philadelphia Fed Economic Advisor and Economist Pablo D’Erasmo, and University of Arkansas Finance Professor Kuan Liu tracked loan activity between 2011 and 2019. Specifically, they looked at residential mortgage originations across three types of issuers: traditional banks, nonbanks, and fintech lenders (which are typically regarded as nonbanks).1  As they describe in their paper, “Market Concentration in Fintech,” nonbanks (fintech and nonfintech) have claimed a larger share of the mortgage market (with fintech lenders seeing an increase from 8 percent to more than 17 percent), while traditional banks saw their market share decline (from 76 percent to just above 45 percent).2

Apart from market-share fluctuations across lender types, the authors record a significant shift within lender types — especially among fintech lenders. The authors observe that market share drifted higher among a small group of popular fintech lenders, resulting in higher concentration levels than were found in the other two types of lenders.

For their study, the authors designed a model in which the three types of lenders compete for a share of a fixed pool of borrowers. The authors allowed for heterogeneity within lender types. The model captures the variables that tend to influence the relationships observed in real-world mortgage markets, on both the lender’s side (the supply side) and the borrower’s side (the demand side). The authors also fashioned a novel measure that captures the lender’s quality of service, which they describe as “technological innovations that affect processing times, customer accessibility, the clarity of information provided to the customer, and the provision of a more comprehensive customer service.”

The model is calibrated so that it mirrors yearly fluctuations in baseline market conditions such as interest rates and overall market size. The loan activity analyzed in the model is based on mortgages issued by the top 200 lenders in every year, accounting for 70 percent of annual loans by volume (on average).

Having designed a model that closely tracks the contours of the U.S. mortgage market, the authors ran a series of experiments to uncover shifts in market share across different types of lenders. One of these experiments isolated the effects of consumer preference for fintech lenders and the faster, easier mortgages they provide. This experiment revealed that these effects explain more than 50 percent of the increase in the market share of fintech lenders during the observed period. Conversely, these same quality dynamics are shown to account for part of the decline in lending activity by traditional banks (with the three biggest banks reducing their market share by 10 percentage points).

In addition to measuring changes in market share across different types of lenders, the model measures changes in the concentration of loan activity within each lender type. The results show an increased concentration of loan originations among the larger firms, with the most popular fintech lenders growing their loan volume more quickly than less-popular firms, thereby growing their market share.

As noted above, the authors suggest that the concentration shown in their findings — that is, the growing volume of loans issued by a few popular fintech lenders — poses a risk for the mortgage market. The biggest fintech mortgage issuers, they reiterate, may become so large that their size “could lead to a too-big-to-fail problem in that sector of the mortgage market….” In light of this risk, the question for analysts and policymakers becomes stark: In the realm of fintech lending, is there cause for concern about an increase in concentration?

The possibility of such an imbalance, as portrayed in “Market Concentration in Fintech,” gives rise to a host of additional potential consequences. There is a chance, for instance, that big fintech lenders could lend too aggressively and become overextended, a risk compounded by the fact that their loans are typically not backed by their own capital. (Indeed, this may encourage fintech lenders to grant loans in an unconstrained or imprudent way. Taken far enough, irresponsible lending endangers other financial institutions, imperiling financial markets.)3

Given these possible ramifications, what initiatives might policymakers consider from a risk management perspective? From a regulatory perspective? Questions like these, the authors say, are good candidates for future investigation.

  1. The views expressed here are solely those of the author and do not necessarily reflect the views of the Federal Reserve Bank of Philadelphia or the Federal Reserve System.
  2. The authors note that their sample period is of particular interest because of legislation, enacted in the aftermath of the Great Recession, that imposes compliance requirements on traditional banks and potentially inhibits their mortgage activity. Meanwhile, by concluding in 2019, their observations avoid the market anomalies brought on by the COVID-19 pandemic.
  3. For an overview of the headwinds faced by traditional banks — namely those banks that rely on brick-and-mortar branches to transact with customers — see “Reimagining the Bank Branch for the Digital Era,” the 2017 analysis published by global consulting firm McKinsey & Company. For further evidence of the shift toward nonbank fintech lenders, see Greg Buchak, Gregor Matvos, Tomasz Piskorski, and Amit Seru, “Fintech, Regulatory Arbitrage, and the Rise of Shadow Banks,” Journal of Financial Economics, 130:3 (2018), pp. 453–483; and Andreas Fuster, Matthew Plosser, Philipp Schnabl, and James Vickery, “The Role of Technology in Mortgage Lending,” Review of Financial Studies, 32:5 (2019), pp. 1854–1899.
  4. Government-sponsored enterprises play a large role in facilitating fintech lending. As the authors report, in 2015 nearly 80 percent of loans issued by fintech firms “were financed by some underlying government guarantee.”