Happy Sunday, friends. A couple of the articles I’m sharing with you this week have me thinking about a theme I covered in my last newsletter: is the rapid proliferation (and apparently unbridled growth) of debt instruments in a stimulus-propped market perhaps too much of a good thing? It’s a puzzler for me at the moment. 

I believe that a market with more capital options for entrepreneurs is a good thing. Full stop. On that point I do not waver. And I doubt I have to explain that to this group because you all do the work you do to provide capital to entrepreneurs in unique ways. It’s why we started Novel - to provide options to entrepreneurs who only had one path to capital. 

But I was struck this week when I realized that the article I shared below from Institutional Investor is the only write-up covering this burgeoning market that I have seen where anyone calls out that there is risk in this kind of lending, and that the market doesn’t yet know how to price the risk into the idea that revenue streams can be securitized. Now, I know there is some debate about whether some of these instruments are debt or not, and I can argue both sides of this one, but I think we can agree that in the case of a failure of a company to pay back an instrument of any kind, there will be a portfolio impact that necessarily reduces returns. And that’s the big risk I see - we don’t know how a lot of these borrowers and these instruments will perform in a downturn, or in an economy less supported by stimulus spending.

In other words, this market is not without risk. It requires sound underwriting, an understanding of portfolio theory and mechanics, and a strategy to deal with failures so that portfolios generate the yield that investors seek. 

And that’s why I ask if the explosion of alternative lending firms - and especially these short term lenders calling themselves RBF - is too much of a good thing. Will all the new players bring strong underwriting models to market? And if they don’t, will weak underwriting push capital onto companies that might not be ready for this kind of funding? And if those companies can’t pay back their obligations at a higher-than-expected rate, will investors be stung, and then pull back from this market? And what if entrepreneurs decide they don’t like the short term capital products that several of the digital entrants provide (news flash: many entrepreneurs don’t love them once they’ve experienced them)? Will they pull back from the market and paint the rest of the RBF market with too broad a brush, thus reducing demand for alternative capital? 

I don’t know the answers to these questions, but I’d love to hear your thoughts. But I do worry that there might just be such a thing as too much of a good thing. Chicken Little Out.