Two weeks ago, I made the negative observation that lending money to government employees (via peer to peer lending) is not as safe as previously thought now that state & local governments are laying off workers due to the recession.

It’s not frequent enough to be called a trend, but the numbers appear to be increasing and job security appears to be a year to year decision:

Oakland, California, laid off 80 police officers Tuesday [2010-07-13] after negotiations between city officials and union leaders failed on one simple matter: job security.

City leaders, however, said it would have been irresponsible of them to agree to protect police jobs for more than one year because the city’s budget problems are likely to worsen.

via SFGate

Future Implications

Government job layoffs have far reaching implications across the board.

Such as:

1. Just because you work for the government, it doesn’t mean your job is safe.
2. Cities are willing to cut it’s most important jobs, even the first line (front line) emergency responders. (Reminds me of Public Enemy’s 911 is a Joke.)
3. Government workers with seniority (e.g. experience) will be given priority over new hires or anyone with less than 5 years.
   
4. It is reasonable to suggest more state and local governments will continue to lay off government employees if their budget shortfalls are not remedied (or bailed out by Federal Government).
   

Cautionary Words for P2P Investors

As a P2P Investor at Lending Club, priority #1 is that I get paid back.

While I’m not an actuary or fixed income expert, it stands to reason that a borrower who just lost their job and recently received an unsecured loan is a higher than average default risk.

Moreover, laid off workers will likely prioritize their financial obligations: food, shelter, transportation, etc.

Common sense suggests that an unsecured personal loan will rank somewhere near the bottom of their priority list, so you do the math.

Ways to Minimize Loan Defaults due to Layoffs

While diversification is ostensibly the best protection from loan defaults/charge offs, their are a few additional things you can do as a P2P lending investor when picking individual notes.

1. Check for headline risk. Go to Google, enter the name of the borrower’s employer (whether that be state/city government or a private company) and include the word “layoff”. If you’re not local to the area, any media coverage from the local media could, theoretically, alert you to impending layoffs and/or budgetary shortfalls leading to future job losses.
   
2. Check the employer’s stock price. Sounds counter-intuitive, but if a prospective borrower works for a publicly traded company, you can see fairly quickly how Wall Street views that company’s future. You can also screen the headlines very quickly for the company missing earnings estimates, losing market share, etc.
   
3. Give priority to those with seniority. I’m not suggesting that you avoid borrowers with only a few years on the job, but, if a manager is faced with the tough decision of laying off workers, they would likely give priority to those who had worked for them the longest (assuming they’re an average to excellent performer).
   
4. Is the borrower management? If the borrower fills a supervisory or managerial role, it’s reasonable to suggest that when faced with reducing overhead, that he/she can lay off those who work for him, rather than putting his own head on the chopping block. If his/her department is hemorrhaging money or he/she is a low performer, this might not matter, but those higher on the food chain usually benefit more from trickle down economics than those lower on the food chain.
5. Does the borrower have an “In Demand” job? Even if the borrower gets a pink slip, can they get another job quickly? Physicians, nurses, military personnel, are all sound examples of professions that are in high demand and have a pretty steady paycheck.

If you have additional suggestions how to identify Lending Club or Prosper P2P notes to minimize default risk, please share them with the group.

Lending Club Investment Portfolio Updates

December 2010 Update: Currently earning 15.6% NAR on Lending Club investment portfolio.

September 2010 Update: Currently earning 15% ROI on my Lending Club investment portfolio.

June 2010 Update: Currently earning 14.2% ROI on my Lending Club investment portfolio.

March 2010 Update: Currently earning 13.6% ROI on my Lending Club investment portfolio.