Macro Microfinance

Last Wednesday I wrote the Business Europe column for the Wall Street Journal Europe, on a Swiss attempt to get pension and mutual funds to invest in microfinance. It's here (for WSJ Online subscribers) and here:

Jacques Grivel is a soft-spoken and very innovative young Swiss financier, founder of high-performance risk analysis and asset management firms such as theScreener.com and Fundo.

Like many other successful people, he wants to contribute to alleviating poverty around the world. Unlike many of them, however, Mr. Grivel is not going into philanthropy. "I want to help by using purely capitalistic financial mechanisms," he says. "I am interested in 'fin-anthropy.'" His plan: persuade pension and mutual funds, which hold a sizable chunk of the world's wealth, to invest in microfinance.

Demand for microfinance credits world-wide far outstrips supply, yet institutional asset managers so far have been reluctant to put their money into this market. "They don't really understand how it works, and managing billions doesn't make them inclined to look at investment opportunities that are declined in increments of 10 or 100 dollars and have the face of poor people," Mr. Grivel says with a smile.

The recent awarding of the Nobel Peace Prize to microfinance pioneer Muhammad Yunus has brought global attention to the concept. Microfinance is about giving low-income people access to the financial system, typically by lending tiny amounts of money to people who usually would not be able to borrow from traditional financial institutions, mostly because they don't own anything to offer as collateral. There are also "micro" versions of savings, fund-transfer and insurance services. Economists C.K. Prahalad and Stuart L. Hart, who first described the economic opportunity residing "at the bottom of the pyramid," in 2002 estimated that nearly four billion people have no easy access -- and often no access at all -- to financial services and therefore can't develop sustained economic activity. Other researchers have demonstrated that there is a high correlation between financial-services penetration in a country (for example, the number of households with a bank account) and GDP per capita.

Since Mr. Yunus's now-legendary first microloan -- the equivalent of $27, from his own pocket, to a group of women who made bamboo furniture in a village in southern Bangladesh -- microcredit models have been copied and adapted all over the world. Vijay Majahan, the chief executive of Basix, a microfinance group in India, has calculated that world-wide there are up to 200 million nonagricultural firms and another 400 million microfarms that could benefit from microcredit. Mr. Grivel points out that if each of these enterprises were to need $500 in microcredit annually, the entire market could be worth $300 billion. And most of this market is not being served: The World Bank in 2004 estimated the total of microcredits at about $15 billion, mainly originating from local savings and most of the rest from noncommercial sources (such as foundations) and aid organizations.

Mr. Grivel wants to channel some of the trillions of dollars currently kept in mutual, pension and hedge funds toward this market. The sector remains risky, but "the mechanisms of microcredit are by now proven," he explains. There are thousands of microfinance institutions, or MFIs, typically small banks in developing countries, that lend to micro-entrepreneurs. Evaluation systems à la Standard & Poor's are emerging, and transparency and efficiency are encouraged by electronic platforms such as the MIXMarket and microcredit analysis specialists like Geneva-based Symbiotics. A few of these MFIs, mostly in Latin America, are even producing better returns -- over 20% a year, according to the Symbiotics 50 Benchmark -- than the top-performers among traditional financial organizations.

Return is a very sensitive issue for MFIs. One of the biggest criticisms of the sector is that it applies interest rates that are typically between 20% and 30%. While acknowledging that these rates are high, Mr. Grivel has little patience for what he sees as unrealistic criticism: "This level of interest is necessary to cover the microbanks' costs, which are high because they maintain a decentralized structure and a local presence, but also to cover the political and currency-exchange risks: Microbanks typically borrow in dollars and lend in local currency. Otherwise, the system just could not work." He also notes that the alternative way for microentrepreneurs to find funding often is to knock on the doors of usurers or local criminal organizations. "It's not the cost of money that dampens microentrepreneurship," he notes. "It's the opportunity cost caused by the absence of access to money."

The numbers seem to be on his side. Since Mr. Yunus founded it in 1974, Grameen Bank has issued microloans worth more than $5 billion to some six million Bangladeshis, most of them women; the bank claims that 98% of the money is repaid. Other MFIs report comparable figures, which are higher than those related to traditional banking borrowing in many developing countries. But Mr. Grivel is looking at this from the perspective of the pension funds. "If we keep looking at microcredit as charity, as an activity that's not supposed to bring returns, we won't be able to make available the cash that's locked up in institutional funds," he says. "They will invest if their investments produce returns."

Enter Finethic, Mr. Grivel's newest venture. Started in July 2006, it is a Luxembourg-based Sicar ("Société d'investissement en capital à risque," or investment company for risk capital). It seeks to make microfinance palatable to institutional investors and raise money from them, rather than from individual investors as other funds do, and channel it to microfinance institutions around the world. The first money put into Finethic, by Swiss mutual funds, has recently been lent to MFIs in Nicaragua, Bolivia, Ecuador and Azerbaijan.

Finethic aims at keeping intermediation costs low -- around half the industry's average of 3% to 4% -- and targets an annual return of at least 6.5%, which will move with the market to remain a couple of points above the U.S. federal funds rate. It is nearing its first target of raising $10 million. That's a droplet in the ocean of microcredit demand, certainly, but "if we can demonstrate that this is sustainable and the returns consistent, the sky is the limit," says Mr. Grivel.

There are a couple of additional details that make the Finethic fund quite a unique approach. For one, Mr. Grivel and his collaborators won't pocket any management fees -- the one way in which Finethic borders on being a charity. The fees of 0.5% are instead paid into the Finethic Foundation, a separate Swiss nonprofit that will use the money to directly fund education, health-care and anti-child-labor projects.

Moreover, Finethic's investment adviser, Geneva's Symbiotics, will be remunerated on a strict performance basis: only when the fund gets returns that match or beat its target. Says Mr. Grivel: "This will offer a new and attractive asset class that can hopefully get, and keep, the institutional investors' attention."

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(Previous WSJE Business Europe columns: 19 January 06: Key Technology - 30 March 06: The fine print on Skype)

Comments

[David Satterthwaite]

Hello, we run a microfinance news service at microcapital.org, and in the outpouring of stories since the Peace Prize, this is the best generalist article I have read. Given the investment focus, I thought your readers might be interested in microcapital.org which provides microfinance information tailored to investors. Resources include a catalog of the microfinance funds universe, top funds, daily news, and a monthly market survey, and much more. We also host the Symbiotic Index, a funds benchmark produced by one of the firms mentioned in the above story. Thank you for the coverage of this important topic, sincerely, David Satterthwaite, Editor, MicroCapital Monitor.

[BG]

Thank you David. Yes, there has been an outpouring of media coverage - happy you liked my story - and that may help microfinance become an even broader phenomenon, together with services like yours and others mentioned in the article that are structuring it as a market.

[AM]

Indeed a very interesting report.. I'm also optimistic about the growing private sector engagement in MF.
I'm doing some research on the worldwide volume of MF, could you kindly let me know the source of the 2004 World Bank estimate?
Regards,
Ashok

[Yasuko Fumuro]

Having read your article, I thought you might be interested in an innovative for-profit approach to boost microfinance by leveraging migrant remittances. It is a unique collaboration of US, European and Japanese individuals and governments.

As your article highlighted, the microfinance sector has began to attract vast commercial and philanthropic funds. Of course, the trend is beneficial for the industry, as limited access to funds has been a major challenge for the sector, but evidence shows that it takes time for the industry to develop capacity to absorb the vast amount of funds.

Microfinance International Corporation (MFIC), a Washington DC based company, takes unique approaches to build capacity of the microfinance industry. The overall goal of the company is to make financial services available to the poor. In doing so, the company focuses on the vast number of transnational families, whose bread-winners immigrated to industrialized nations to support their family members, and tries to maximize the development impact of remittances that they send home.

A recent report released by IFAC suggests that approximately 150 million immigrant workers sent $300 billion dollars home in 2006, and in some countries, remittances account for as much as 20% of their GDP. The vast size of remittances underscores the effectiveness and efficiency to take into account the economy of those who immigrated in solving the problem.

Unique characteristics of MFIC's business include:

1. It tries to improve financial status of remittance senders in the US, which affects the economy of remittance recipients in their countries of origin. The company is one of few organizations that practice microfinance in the US and helps immigrants to build a credit history or to cope with emergencies. It operates Alante Financial, its wholly owned retail financial service branches that offer a line of services tailored to unbanked immigrants.
2. It offers turn-key remittance solution to US financial institutions, enabling them to offer competitive remittance services, thereby effectively capture the fastest growing immigrant market. This contributes to advancing the financial integration of unbanked immigrants to mainstream financial system with speed and scale, and lowering remittance prices through increased competition in the market.
3. It channels migrant remittances to microfinance institutions in developing countries, using its unique settlement platform, thereby enabling these institutions to grow their business through additional revenue stream, customers and lending facility.

MFIC was founded in 2003 by Atsumasa Tochisako, a former Japanese banker, who firmly believes that there must be a way to deliver financial services to the poor in order to help them move out of poverty. Due to its unprecedented business model, institutional investors were reluctant to support in the beginning; hence, the company was funded by about 100 individual investors, mostly Japanese. Earlier this year, however, the Development Bank of Japan decided to take stakes in the company, followed by FMO, the Netherlands Development Finance Company. The investment will enable MFIC to expand to Asia and Africa.

Best regards,

Yasuko Fumuro
Microfinance International Corporation

[Sabelo Mamba]

This is Sabelo Mamba ( from South Africa ). The comments are very good. One would have however thought that a sense around the key formula for the success of a Micro Finance Institution would come out in the above discussion. One is aware that there might be no one winning formula but I believe we can mathimatically come out with an equation that would surely ensure that we stop the trial and error in the Micro Finance Industry which oftenly results in many MFIs that come into existence to be condutes of state and other organs financial resources in the name of the poor. This attitute must come to an end bottom line. No governments in the world can forever afford the subsidising of non performing MFIs.They must be shown the exit door from this interesting industry.