The “Underserved Market” for Financial Services Grows Dramatically

A new study shows that revenue from interest and fees paid by financially underserved consumers has grown dramatically in recent years. This is either disturbing or wonderful, depending on who you’re talking to.

Clearly, the underserved market is a cash cow for alternative lenders and other specialty financial services firms. The study, from the Center for Financial Services Innovation and Core Innovation Capital, found that revenues raised from underserved consumers rose by 8% in 2012 versus 2011. It stood at to $89 billion by the end of 2012.

So, who are these “underserved consumers?” They are typically low-income Americans who lack access to even the most basic financial services, such as checking accounts. They usually don’t have well-established credit, and so don’t have access to competitively priced loans for houses, cars or revolving lines of credit (credit cards).

In recent decades, a new crop of alternative lenders have stepped up their games to serve this market. These include payday lenders, pawn lenders and specialty finance firms that cater to the sub-prime market.

Unfortunately, many of these lenders charge outrageous interest rates and fees. In some cases, the effective interest rate (which is the sum of interest and fees on a loan product) that these financially vulnerable consumers pay is in the triple digits.

For their part, CFSI and Core Innovation Capital see the rise in underserved market as a good thing, reflecting a greater range of products and services being made available for this market. Indeed, these organizations expect this market to grow by another 8% in 2013.

It is easy to decry this market as an unwholesome meeting of predatory lenders with vulnerable consumers. However – as alternative lenders point out – the reason they’ve had such revenue growth is that traditional lenders will not serve these customers.

So, when a low-income person with bad credit needs a car to drive to work – or faces eviction from their home due to a paycheck that won’t arrive on time – where else can they go?

It’s a compelling argument in many ways. But, if anything, it points out how many financially vulnerable people there are in the U.S., and how woefully inadequate the financial services industry has been in serving them. Clearly, these Americans shouldn’t be left with the choice of either predatory lending, or nothing.