I “invested” $1000 with Prosper in 2006. At the time I consciously considered the “investment” in the gambling type of category; turns out I was correct. 8 of my 19 loans have defaulted so far and more are flirting with frequent lates. Of the good loans I funded, several paid off early which really reduces your return. I tried to be careful in my evaluation of the loans, but they don’t necessarily give you enough information to make good investments. And the servicer just doesn’t have the motivation to collect on *your* loss. I would advise you to proceed with caution and invest very slowly. Put a small amount in at first and see how it goes for at least the six months.

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Matt Reply:
September 1st, 2009 at 11:52 pm

@ Sharon,

Yeah, that’s an experience I’m really trying to avoid. What drew me to Lending Club is that they seem to have a more strict lending policy than Prosper (could be wrong), and the borrower info section seems pretty good. For me, it seems to be enough to make an informed decision and I’m hoping my “P2P investing plan” above will workout.

I’m starting with $1000 and plan on buying 40 different notes. Maybe toss in a few $100 every month and reinvest as the repayments/dividends come in each month. If the defaults begin to rise, I’ll add in a few more A rated loans.

Thanks for commenting.

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I should also have added–borrower’s lie. They may say it’s for one purpose, but use it for another. And once they have the money, there is nothing you can do about it.

I am not familiar with Lending Club as I had my fill of P2P lending, but I would encourage you to drop into their forums before investing. Folks there will probably be able to add some additional advice about Lending Club’s policy and collection practices.

Be careful.

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It’s no secret Prosper sucks. But P2P Lending is an awesome concept that gives you the chance to be the banker. You can’t pass that. Lending Club is the more serious of the bunch and I recommend folks trying it out. I’m making around 8.5% after a year of playing with it and after a few defaults.

Your strategy seems solid to me. The only dif with me is that I do venture out to bigger loans (up to $18k) as long as their income can take it.

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Matt Reply:
September 2nd, 2009 at 9:34 am

@ Linda,

So you’ve had a few defaults even with the lower risk loans? Would you mind disclosing what you think went wrong with the notes? Job losses? Too much debt?

Sorry to be so inquisitive, but I think it would help me understand what types of loans (if any) have a greater rate of default. The “Beat the Average” webinar has some really great info about which loans default more than others, but I would be interested in your experiences as well.

Thanks for commenting.

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Roger Pratt Reply:
February 6th, 2010 at 12:14 pm

Dear Linda:
Just wondering if 16% interest on $10,000
could interest you for 3 years without all the red tape. I am a LC member as a investor and just getting my feet wet. I plan to put in an application to borrow funds and if you can work with it you’ll have
all your funds back plus interest. You can also e-mail me. I can also work with $5,000 at the 16% rate if you wish. You should contact the LC and let them
know that you want my application for funding when it
becomes available.This is what am willing to offer,
willing to give you 3 years interest in full should I
repay before the 3 years are up. The funds will be used for buying,selling and renting mobile homes on
parks and real estate from banks as they become available. Also the cost to incorporate and build business credit. When done I’ll use the business to build.

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Matt SF Reply:
February 6th, 2010 at 12:40 pm

Roger,

I applaud your efforts to find investors prior to your Lending Club loan application going public, but I’m fairly sure that your recruitment efforts goes against what Lending Club is trying to do when it comes to investors diversifying their investment portfolios to reduce their risk to capital.

I’m not insinuating you would ever allow your Lending Club loan to default and 16% is a great ROI, but just saying that it may be better for new investors to spread their risk across multiple loans rather than put all their eggs into one basket.

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Yes, P2P lending is a really interesting concept; and has some risks as everyone is pointing out.

For those of you who are interested, I recently interviewed Lending Club’s CEO Renaud Laplanche to answer a bunch of questions that most people have about Lending Club – you can listen to that interview at http://www.growthink.com/content/interview-renaud-laplanche-founder-ceo-lending-club

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Thanks Dave. Pretty good interview!

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Thanks Matt!

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I live in Canada, we Canadians are a fairly conservative lot. I always wanted to be a banker too. Where your subprime defaults are in the 8-12% range. Ours are 2-5%. Cool thing is that we can lend out our Retirement money in small mortgages to people that pass a similar set of rules that you have above. Our city has had maybe 5 years total where the housing market has not increased over the previous year from 1900 and never 2 consecutive years. 2008 was I think 4-5% growth. It started out as 9-10 and then lost ground. So if we lend it out as a mortgage and only go to 80%, the chances of us losing our money is very slim.

I’m not saying zero or anything, but I sleep at night. I had my money in mutual funds for 12 years (wasn’t paying attention to them—they are just supposed to grow with the market right). I was surprised when I realized that in June of 2008, I had lost 300 on 30,000 invest over a 12 year period.

So I put that money into bricks and mortar with my other money. I have been making 12-20% on my lending money for a few years now.

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Matt Reply:
September 5th, 2009 at 12:19 pm

Hey Connie,

Thanks for those insights. I didn’t know Canada has such programs available. Wish we had something similar to that here in the U.S. many years ago because I would definitely have used it.

In the past, the banks have (or had) a monopoly on this sort of thing. One could argue that is a good thing considering the subprime mortgage crisis (and possible prime borrower spike in defaults due to job losses), but as I mentioned in the post above, I would have taken a more conservative banking/lending/investing route.

Thanks for commenting!

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I agree that all of your standards are good except #1 and #3.

Of course you want to diversify quite a bit, but diversification doesn’t increase your return; it just lowers your volatility. Among the loans that meet all of your standards there will still be a hierarchy of how trustworthy they appear to you: several of your standards are a scale, not a yes/no question. So why not put proportionally more money into the best looking ones? It may drive up your volatility, but it should drive up your returns as well.

I think that putting less weight on the credit score may actually be the best way to beat the average at LendingClub. If their request is hitting on all the other cylinders, including no delinquencies, why care about the FICO? Some very dependable people just don’t have well-established credit and they pay for that when they get a loan. They could be paying *you*!

I’m currently seeing 12.02% return on my LendingClub notes. One is delinquent by more than 31 days, but it’s one that I only put $25 into so it’s not dragging me down much at all. I put 9x that into my biggest note that looked solid. $2,200 in 29 notes. My average was $75. I can say from experience that you’ll have trouble investing even $2k by your standards if you stick to $25 loans. It took me a couple weeks and a few hours of reading loan apps.

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Matt SF Reply:
September 6th, 2009 at 5:51 pm

@ Ethan,

I respectfully disagree on the diversification issue. I, as well as the Lending Club staff (via webinars) and other investors, agree that diversification is the way to go to reduce defaults, which I consider to be the greatest threat to my ROI. I think of it like diluting out a poisonous substance… if it’s 1 drop in 10 it’s lethal, but 1 part in 100 it’s tolerable. Please forgive the strange example, but working in the biochem field for so many years, that’s just how I view loan defaults.

I completely agree on your second point regarding credit score. I could go for higher risk notes to ratchet up the ROI, but I’d like to stick in the B to C range for some added security. Whether that security is real or perceived, is up for debate, but I’m not trying to beat the average by that much.

As I said, I’m a novice here so this may work or it may not. We’ll just have to see what works out in this pilot scale experiment and tweak it as time passes. Thanks for commenting.

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Matt,

Great post! In addition to the criteria that you talked about, I also like to look for home owners over renters. I like to also look at whether the income they claim is verified by Lending Club. I prefer to lend money to business owners rather than people just trying to consolidate debt. LC is great! I’m sure that you’ll love it!

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Matt SF Reply:
September 7th, 2009 at 10:30 pm

@ Hank,

Thanks man! Income verification is huge, and I would have mentioned that, but from the loans I wanted were funded so fast that the admins didn’t seem to keep up. As the last two webinars have mentioned, the popularity in social lending has noticeably sped up the funding process. However, I did read the Q&A section and most of the loans I funded did say they had faxed/scanned paystubs to LC.

I hope that in the future, Lending Club will somehow make income verification a mandatory thing. LC says that if you make a borrower jump through too many hoops, you’re likely to chase them away. I agree, but maybe LC could give borrowers a discount (say 0.25% off) for anyone who verifies their income.

If the 12% – 13% plan works, I might bump it up a little higher and lend to business owners. I’ve seen some really good business ideas around 15%-16% that seemed rock solid. Thanks again for the comment!

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Hmm. I don’t think I’m understanding how you look at it. Let me try to explain my thinking another way. Imagine a pool of X loans, all of which meet your standards for investment. I place $Y into each one. On average, Z% of them are going to default. As long as I experience the average default rate, my diversification among different notes doesn’t change my results.

For example, if X=100 loans, Y=$25 and Z=4% then I’ll see 5 loans default, taking $100 out of my earnings. If X=25 loans, Y=$100 and Z=4% then I’ll see 1 loan default, still taking $100 out of my earnings. Of course, the volatility is very different. For starters, when I work with a smaller pool of loans I am less likely to experience the average default rate. And furthermore if Z were 6% on average, then even if I experience the “average” it will be a 50/50 chance whether I’ll experience it in the form of 1 default or 2 defaults. In other words, *I* can’t experience 6%; I’ll either beat the average and experience 4%, or lose and experience 8%. I’ve guaranteed that I will be an outlier on the default rate curve.

So none of this reduces or increases the average default rate. It does reduce the volatility and therefore, perhaps, reduces one of the chief impacts that defaults have on investors. I’m not trying to be argumentative and this standard certainly fits if you want to minimize volatility, but I do think that is all it does.

One of the things this means is that, if there really is a sliding scale of note-quality even for notes that have passed all of your minimum standards, then as long as you are still investing in a high enough total number of notes to smooth out the defaults, there should be opportunity to favor the best looking notes with some extra cash. Doing so should, on average, decrease your default rate even further. And as long as your volatility remains at an acceptable level it isn’t hurting you on that front either.

That said, I should watch the Webinar. Maybe I’m missing something.

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Matt SF Reply:
September 7th, 2009 at 10:51 pm

@ Ethan,

It’s natural to have confusion, or even outright disagreements when it comes to such matters. That’s what makes blogs so cool… we can agree to disagree and maybe learn something in the process.

I’m not the expert, but the Lending Club webinars I’ve seen thus far all say diversification is paramount. However, if you’re in the 100 loan range, you’ve likely got a fairly well diversified loan portfolio. I think what LC wants is trying to do is prevent new investors from investing $5000 across 5 loans ($1000 per loan). Just 1 default wipes out 20% of their cash. If they diversify out to 100 loans ($50 per loan), and only 4% default, they’ve only lost $200, and the interest payments will make up for it plus extra.

I’m not concerned with loan volatility since it’s my goal to hold the note to maturity (e.g. not to sell it). As far as I’m concerned, the only risk I have with the loan is not getting paid back. Since it’s a promissory note guaranteeing me a set percentage on my capital, I really don’t care how volatile the note might be (if at all) during its lifetime.

If you want to learn more, checkout the Beat The Average link in the 4th paragraph above. It’s about 30 minutes, and is worth the time investment if you’re serious about social lending.

Thanks for all the questions/comments. Appreciate it!

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I have been using LC since March. I use the same strategy of investing only $25 per loan unless it is an A rating loan. Thus far, I have had two C grade loans go late (31-120 days) that I invested in when I first signed up. My net return is 10.46% with A loans making up around 62% of my portfolio.

I have since stopped investing in any loan lower than A grade unless the income is verified. I wish LC verified every loan, the stated loans are a part of what went wrong with the housing market. I try to ask questions on every loan now, if only to get a better feel for the borrower and to encourage them to get their income verified.

I would like to see a loan tracker feature added so that you can track loans that you are interested in. It would also be nice if you could set a threshold per loan to be emailed when funding has reached XX%. Often times, the verification doesn’t show until funding is close to or has actually completed.

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I would love to see them add a carefully-crafted communication system that allowed lenders to communicate with borrowers throughout the life of the loan. Obviously there are problems to be avoided, but it seems that a more personal connection between the two sides of the transaction would create a stronger inclination to fulfill the terms of the loan agreement on the part of the borrower.

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I applied a similar plan to investments with Prosper. Although, I would add.

11. No debt consolidation loans. If they are in debt already a P2P loan doesn’t seem like it has the pressure that a bank calling does.

My Favorite Types of Loans:
* Home Improvements
* Car Loans
* Business investments (last place)

It’s worked pretty well for me so far. I’ve averaged an overall 12.84% interest rate for the last year:).

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Matt SF Reply:
September 9th, 2009 at 11:55 am

@ FreedIncome,

Thanks for the comment. I agree, I’m not a particular fan of outright consolidation loans because if they got in debt once, who says they couldn’t get into debt again? To me, that seems like the primary risk of buying these types of notes.

However, I do think there are some worthy consolidation notes out there. They would be:

* Responsible credit card users with recent interest rate spikes.
* Grade A or B borrowers who can get a lower interest rate via Lending Club or Prosper.
* Recently married and want to consolidate debt.

I’m sure there are a few more categories, but I like the idea as long as the borrower is consolidating for the “right reasons” and not because it’s their last option to prolong their spending spree.

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http://investorjunkie.com/lending-club-review

I also am a LC member and will be posting my results.

I think like in investing, debtors are finding places they can get a better rate and lending club is one of the answers.
.-= Investor Junkie´s last blog ..Why Buying a Timeshare is a Bad Idea =-.

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I love Lending Club, and I have been investing with them for over a year now. You have a great set of criteria. I use a similar one to pick high quality loans. If you are particular about who you lend money to, you will be very successful. You’re off to a great start.
.-= Hank´s last blog ..83 Money Moves To Make Before You Are 30 Years Old =-.

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Matt SF Reply:
December 29th, 2009 at 11:25 pm

Thanks Hank! I’m definitely giving Lending Club 110% effort, so we’ll see how it plays out.

For now, I’m just going small and trying to test the waters with a few loans here and there. As Scott mentioned in the first webinar, the only risk you have after making the loan is the borrower won’t pay you back, so I’m assuming if I do the upfront homework, it won’t be nearly as time consuming as following an equity investment.

That said, I’m drooling at the future possibility of making 12% a year and only investing 1 to 2 days a month reinvesting the monthly repayments.

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Great post!! I noticed reluctance in some of the comments to lend to debt consolidation loans. While I understand that viewpoint, I think it ignores the fact that the credit card landscape is changing so much with new credit card laws. I’m an active LC lender – and I am embracing lending for debt consolidation for ppl with good to great credit who seem to be getting caught (their rates get jacked up). Be interested to find out what others think of LC & the credit crisis. Thanks!

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Matt SF Reply:
February 27th, 2010 at 9:20 am

Thanks Jenna! I appreciate the kind words.

Let me first say that I do not have a problem investing in debt consolidation loans… just certain ones.

For example, I have several $25 debt consolidation notes, mostly to governmental employees, like a border patrol officer who wanted to refinance from 25% interest rates down to 12%, but only had 40% credit utilization rate.

As an investor, I feel it’s my job to reduce my risk as much as possible, so I do have a preference for loan applications < 50% credit utilization rate versus a borrower > 75% credit utilization rate. In theory, if a borrower had maxed out their credit cards but sees “the light”, and promises never use their credit card again, who’s to say they won’t do it again 18 months into their repayment plan when they come across XYZ item they really want?

So even though that I’ve been discussing ways to fight back against the Too Big To Fail Banks for a while now, I still want to be selective in the “consolidating to a lower interest rate” notes I buy (aka diversipicker), and this is just one of my more conservative screening metrics to reduce my number of loan defaults.

Of course, I could be 100% in wrong in my initial assumptions. I’m still very new at this, but being more selective than I need to be helps me sleep a little better at night. Thanks again for the comment.

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