If you’re looking for one of the few genuine ‘high-yield investment opportunities’, you couldn’t do much better than microfinance – lending money in small amounts at high interest rates to small entrepreneurs in developing countries. The best thing about this investment is that you can earn big profits and do good while helping entrepreneurs in the developing world. It’s something that myself and some of my clients have been investing in for a number of years.
It may seem risky, but there are now a number of publicly traded companies that you can invest in that do this as their core business, and they are doing very well.
Borrowers typically have no formal credit histories and have often been passed over for loans by major banks, but they generally have excellent business acumen and a way of turning a profit quickly. Many of the borrowers are women. Audited statistics show excellent loan collection rates, often well above those of major banks. This is because mycofinance works in a different and more personal way using peer group support and credit management. Borrowers feel accountable to other people, rather than anonymous banks.
Microfinance, simply the granting of small loans, has its roots in the social movement. It has long been supported by low-interest loans and grants from non-governmental organizations, foundations, etc. in recent years. You’ve probably heard “give a man a fish and you feed him for a day… teach him to fish and you feed him for a lifetime”.
The idea of microfinance has always been that instead of helping people with short-term financial help, you can help them grow and develop their family economies so they can gradually get out of the poverty trap and move on to bigger things. Often sole proprietorships can put together a few dollars, but can never get out of the poverty trap due to a lack of working capital. Microfinance is one way to address this vicious circle.
The original sponsors of microfinance initiatives were not looking to make a profit but to do good. However, many found that the bottom line was that MFIs were generating healthy profits. A typical case of sharing the wisdom of wealth: what goes around comes around. Helping others build wealth can bring more wealth your way, and certainly not just financially.
Once the traditional financiers saw that these ‘social movements’ were making a very respectable profit, of course they wanted a piece of the action. In recent years, this has attracted more private capital into microfinance. Many venture capital firms, investors, and even banks have been investing in closely held microfinance initiatives, while other microfinance institutions have listed on the stock markets to raise equity capital.
One of the leaders in this field is CompartamosBanco, a Mexican microfinance institution changed its nonprofit status to become a commercial bank through an initial public offering worth more than $1 billion on the Mexican stock market in 2007, after realizing that it could help a lot more. people that way.
CompartamaosBanco was incorporated in 1990 and has become the largest microfinance bank in Latin America, serving more than 1,000,000 clients, most of them women entrepreneurs who previously had no access to working capital loans. Their clients use these funds to expand their businesses and invest in equipment and materials, improving the quality of life for themselves and their families.
Is it right to benefit from the poor?
Of course, a big moral question arises here. Is it right to profit from the poor? Perhaps most importantly, where do you draw the line between microfinance and old-fashioned loan sharking?
Some of the other public faces of microfinance, such as Muhammad Yunus, Nobel Prize winner and founder of another successful microfinance, Graheem Bank of Pakistan, remain strongly committed to the not-for-profit model. They believe it is wrong to profit from lending money to the poor.
Mexicano CompartamosBanco, however, points out that since it went public they have been able to reach ten times as many borrowers and also lower their interest rates. In terms of social responsibility, 60,000 of its borrowers last year attended free “personal finance 101” classes. I wish subprime lenders in the US had been so responsible as to teach their borrowers what the fine print they were signing really entailed!
High interest rates are the norm in developing countries, where the cost of servicing debt is much higher than in countries with a more developed financial infrastructure. CompartamosBanco, for example, spends $152 per year per borrower to manage their loan portfolio, compared to an average loan of $450.
This is not because they are inefficient, it is simply their business model and the way they avoid bad debt. For example, borrowers do not have bank accounts from which weekly payments can be automatically withdrawn. They work in an informal cash economy. Bank representatives typically meet with each borrower each week to collect repayments, sometimes as low as $5 each. This model works in developing countries where salaries are lower, but still generates very high administrative costs as a percentage of loan amounts.
The result is impressive. As of June 2008 (latest statistics available), CompartamosBanco’s non-performing loans represented only 1.38% of the portfolio, much less than most traditional banks that make unsecured loans to borrowers who are much better rated according to the traditional models. Non-performing credit card loans in Mexico are now above 10% at major card issuers like Banamex, a Citibank subsidiary.
Since the Initial Public Offering in April 2007, Compartamos has added a new type of responsibility to the bank’s stated objectives. That is, offer transparent and updated information about the company, its operations and finances to its shareholders. As a result, they organize market conference calls and shareholder meetings.
Actions and distribution
Compartamos says its mission remains unchanged, citing some statistics to defend itself against social activists who liken it to a loan sharking crew. Its management is convinced that by seeking profit it will be able to provide financial services to many more poor people much faster than it could if it had continued to operate as a charity.
By charging a profit-generating interest rate, the bank is able to grow rapidly and provide many more “micro-entrepreneurs” with the financing they need, even at interest rates that, by developed country standards, seem unacceptably high. Compartamos also argues that its profits will build a microfinance industry. The more you earn, the more attractive microfinance will be to investors and the more capital will flow.
Evidence tends to support this claim: since Compartamos relaunched as a for-profit entity, seven new regulated microfinance companies have begun to compete with it in Mexico, many of them financed by for-profit capitalists. Increased scale and competition are driving down interest rates, in the case of Compartamos, from 115% seven years ago.
“For-profit” microfinance is making great strides elsewhere, too. The first for-profit (but not listed) microfinance institution was Bolivia’s BancoSol. In India, SKS, another for-profit lender created by Vikram Akula, a former McKinsey partner, is backed by Sequoia, a leading Silicon Valley venture capital firm.
Competence
Competition for companies like CompartamosBanco comes in many forms. Credit unions, for example, have been very popular in Latin America despite their high bankruptcy rate. The main problem with credit unions is that they are not run by professional bankers and lack the rigid systems that exist in for-profit companies.
The evidence shows, however, that where there is a profit motive, things start to look much better. Witness another successful non-traditional financial business in Mexico: Banco Azteca. Banco Azteca does not fit the definition of a microfinance lender, as it lends primarily for consumer purchases rather than to finance wealth-generating activities. However, it has been very successful in what might be called ‘subprime’ lending, offering banking services to unbanked people who have no formal credit history.
Part of Grupo Elektra, which operates appliance stores throughout Mexico and Central America, Banco Azteca was founded at the beginning of the 21st century with the goal of providing banking services to the unbanked in Grupo Elektra’s traditional markets. Elektra stores had an existing portfolio of borrowers who had established credit histories by purchasing appliances and appliances and paying weekly, and it made sense to offer them banking services such as personal loans and credit cards. Since most customers don’t have traditional bank accounts, they have to make their weekly payments in cash at stores, or Banco Azteca sends collectors on motorbikes all over Mexico and Central America to collect a few pesos a week.
How to start investing in microfinance
What if you decide you’d like to invest a portion of your portfolio in turning “poverty into profit”?
Let’s start with the most conservative way: a simple bank deposit. Banco Azteca in Panama currently pays 8% on US dollar CDs, much higher than the typical rate offered by other Panamanian banks.
Another way to start right now would be to buy shares of CompartamosBanco. It is listed on the Mexican Stock Exchange and most full service brokers should be able to buy shares for you on this exchange. If not, then the brokerage firm we normally work with in Panama can certainly purchase them for you, on behalf of a Panamanian tax-free entity of course!
A more adventurous, but potentially more rewarding way to invest would be to become a source of finance for a microfinance business. This is something that would require more research on your part and good contacts in Latin America and the Caribbean, and the good thing is that the investment can be completely managed abroad. To diversify risk, I would recommend doing it as a syndicate with other like-minded investors. A couple of people have already expressed an interest in this to me, so if you’d like more information, feel free to contact me via the website listed below.