Prosper P2P Lending Update #2: Scary Graph and Stats

I was trying to run some more recent numbers to update my most recent concerns regarding person-to-person loans at Prosper.com. Essentially I was wondering if the loan performance would continually get worse over time. I was curious because it’s one thing to advertise 8-12% returns when the loans are new, but what really matters is the performance at the end of the 3-year term.

While trying unsuccessfully to churn those numbers, I ran across this related chart from the very analytical Prosper lender Fred93′s blog. The graph is essentially % of loans defaulted vs. loan age. Fred93 explains further:

These charts show statistics for the performance of all prosper.com loans. Each curve represents the set of loans that were created in one calendar month. The vertical axis is the fraction of those loans that have “gone bad”, in other words are 1 month late or worse (up to and including default). The horizontal axis is now days since month of loan origination. All data comes from Prosper.com’s performance web page.

altext

If you look out one year from origination (ie 360 days) you will see that about 20% of Prosper’s loans have gone bad. You can also see that this is remarkably consistent from month to month (ie the different curves). One can only conclude that the default rate of Prosper loans is in the neighborhood of 20% per year. Loans originating after Feb’07 are going bad at a slightly lower rate, probably because Prosper increased the minimum credit score required for a Prosper loan at that time.

I learned also that he makes these conclusions because (1) historically over 85% of Prosper loans that reach 1 month late eventually go into default, and (2) the recovery rate after being sent to collections is terribly low. Together, you have his statement that ~20% of loans go into default each year. For a three-year loan, that ain’t good!

The slope (default rate) does seem to be slightly lower for the newest loans, but what concerns me the most is the constant linear deterioration of loans. This confirms my fear that loan performance consistently gets worse as the loan ages.

Now, I know this chart doesn’t tell the whole story, but I do think P2P lending is still very new and has a lot of growing pains to overcome. For borrowers, it can be a great deal. But as much as I want to be grabbing some solid returns this way, I’m still wary of committing significant money given this information.

(I haven’t found similar numbers for competitor LendingClub yet. They are still young, but they seem to be doing better in defaults so far. I’m waiting for more loan data to accumulate.)

Related P2P Lending Posts

Update: Here is a simlar graph which is also Percentage 30+ days late vs. Loan age, but broken down by credit grades from RateLadder’s blog.

altext

I would say these are the expected results… Percentage of defaults still rise steadily with time, which means your performance is expected to get worse with time. The actual rate of default differs based on credit score. Even AA loans have ~10% defaulted after 1 year.

Comments

  1. Yikes! That’s worse than the subprime loans.

  2. Nice to see someone taking a serious look at Prosper and not just blindly singing their praises because of seemingly high rates of return (advertised, likely not real).

    I looked at Propser, but I could never get over the fact that the loans can simply default and you have virtually no chance of getting your money. The rate of return needs to be much higher to justify the incredibly high risk of an ‘investment’ going to zero.

  3. If the state governments would allow people on Prosper to lend without interest rate caps then this would all fix itself. Rates would be high enough to compensate for historical risk and many people that can’t afford to borrow would simply be priced out of the market. Still, people would get much better rates on Prosper than anywhere else.

  4. just use http://www.zopa.com it is fdic insured and it is run by a few credit unions!!

  5. It would be interesting to know how Lending Club compares. I’ve read better things about them (higher credit score required, etc.)

    3.75 APY for a 1 yr zopa CD… ok, it’s not horrible, but I want my money to work harder for me than that.

  6. Mike H, Lending Club doesn’t have state rate caps.

    http://prosperlending.blogspot.....-caps.html

  7. While I have my own issues with prosper, I do think it’s bit unfair to to look at at loans without breaking them int credit score grades. Of course someone with a low credit score paying 30% in interest has a very good chance default. But you’re being paid for that risk with the 30% interest rate… The real question is what the real weighted average return will when we have enough data to truly judge.

  8. 3 of my 19 loans are default(since May 2007). They have AA,B,C grades.

  9. As much as I wanted to like Prosper, I just can’t go for it either. The bottom line is that you’ve got to manage a bunch of tiny loans with the underwriting standards of a credit card company. In the end–if I’m reaching for yield above FDIC rates–it makes more sense to get into a flexible bond fund (e.g., Loomis Sayles or Manager’s) or buy high yield stocks.

    [It doesn't help that young/attractive women get their loans funded more easily and at lower rates on Prosper...zero logic to that...a bunch of amateurs...]

  10. Justjoeguy says:

    If I understand it right the loans only last 36 months and it hasn’t been that long since the first loans were made? So then these figures can only get worse? So then if you project the trend out to 36 months what would the default rate be? Seems to be in the neighborhood of 40 -42%? And if that’s true then the yield should be about 6% assuming you invest equal amounts across all types? That seems to indicate that you’d be better off putting your money in a corporate bond that is maybe just slightly below investment grade? I don’t know. What do you guys think?

  11. @dong — The problem is that 30% isn’t enough to compensate, believe it or not. I invested in 2006 in 20 people who I thought wrote good essays, were good risks, and paid high rates. I have only broken even because of the tax deductions on defaults. The reality, I think, is that Prosper attracts people with unobservables that make them more likely to default than even the average person with their credit score, and the theory about group pressure not to default has simply not panned out. I waas stunned by the number of people who defaulted after making only one or two payments!

  12. Big Mike says:

    This is a great article Jonathan. I put some play money in Prosper about a year ago, and so far I am still positive with just one account being late (not yet defaulting). I guess I am extremely lucky!

    I agree with what others said, Prosper seems to attract a higher risk crowd, but a 20% default rate is just scary.

    I guess the only people making money on Prosper is prosper.com itself with their percentage takes :)

  13. Dong – Your wish is my command :) A user e-mailed me a chart of exactly what you ask – the same chart broken down by credit grade. I appended it to the end of this post and added some more comments as well.

  14. WOW, thanks for the link which took me to a whole list of prosper fora. I did not knpe there are so many people venting and sharing their experience.
    I have so far not invested in prosper and only token amount at lending club.

  15. Thanks for posting that update (and thanks Kevin? for sending it). It’s helpful to see the charts side by side. Because I think if I were to lend on Prosper it would more likely be to people in the top two tiers. But while they show a significant improvement over the lower ones, I’m still not sure that’s good enough.

  16. Thanks so much for posting this! I have been curious about Prosper but I don’t think I’m going to try it out now- sounds too risky! I think that’s what happen when people get greedy- they think they will earn 12% or so, then end up losing out on anything. :(

  17. Very interesting. Using data to really see what is going on is great. It is pretty amazing to see how high the % of late loans gets. Also if the 85% figure is true that is a pretty scary number. Keep up the good posts.

  18. Someone earlier commented “…worse than the subprimes…”, which made me think: What affect is the “recession” having on Prosper default rates?

    Even the “real banks” can’t make a profit loaning money. Would Prosper loans fair better in a better job market/economy? Obviously. (Not accusing anyone) but I’d be wary to jump to conclusions that Prosper is useless. And like you say, kinks will get worked out over time.

  19. I have had only 1 loan late and no defaults

  20. this is why p2p lending won’t be any better deal than non-p2p lending. the market will eventually correct itself and there won’t be much of a margin difference between normal lenders and p2p. the difference is that normal lenders have a bunch of actuaries that have created models to limit the risk, whereas p2p has to go off of what is on the p2p site.

  21. Why not just give the money away and call it a tax deductible donation? If you want to make 8 – 12%, then go to zecco, make a few good trades, and you’re there! I started an IRA with them 5 months ago and I’m up 16% already?

    Altruism and profits are like pizza and ice cream. They’re both great, as long as you don’t combine them.

  22. Any CPAs that read this blog? This is a little off-topic, but can we treat P2P lending as a “business” and depreciate computer equipment and internet connection expenses? If there is a default and loss can we write this off as bad debts?

  23. MossySF says:

    You write off defaults as a capital loss. So if $5 of principal was paid on a $50 loan, you list it as a $45 long term capital loss. Here’s a good link that deals with this subject:

    http://earlyretirementextreme......tices.html

    As for writing off expenses, I dunno. I’d think at the level most people participate in P2P, it’s treated as an interest or investment activity. Maybe if you got a TIN and did all your transactions under a business entity? I dunno.

  24. Abraxas says:

    I’ve been lending on Prosper for a couple years, with about 180 loans. First it is great, then you start getting a few lates, then defaults. . .but the net return can still be pretty good. In my case, I’ve been getting ~7% a year for the last two years, based on [interest received - defaults]/dollars_in. That being said, I’ve finally started drawing out of the account for the simple matter that the overhead of re-investing the constant stream of income (from principle payments + interest) takes more time/effort than it is worth (to me). For someone who rotates balances across 0% APR credit cards and writes a blogs about it, this might be considered more fun than work! :)

    So, in weak defense of Prosper, I entirely believe that one can get a reasonable return by making (1) a good screen and (2) really reading the stories. The default statistics are too detached. You’ll see someone with “A” credit offering 25% interest with absolutely no information–people will bid on that loan because they see “A” and 25%. It defaults, and the stats look bad–but may wise (or previously burnt) lenders wouldn’t touch that loan due to the lack of documentation. I need to know that the person is ultimately better off with the loan (their net monthly payments go down, for instance). Such loans are a small subset of the total loans. Certainly you cannot trust what people post there blindly, but sometimes you see a situation where it’s clear that everyone involved is better off, and there is just no reason not to believe it.

    Incidentally, a second point on those default rate plots. Don’t forget that a guy who defaults after two years paid his loan for ~1.5 years. It’s not a total loss. I’ve had people with high interest rates default (or effectively default–you know it’s just a matter of time) after a year and then notice that they’ve nearly paid out (including interest) half their original loan. . .somehow, that makes me feel better. It’s the people who make one payment and belly up that suck! And every once in a while, Prosper determines there was fraud, and repurchases the loan. . .but don’t count on it!

  25. First off, regards to the mymoneyblog dude for the awesomeness of this blog…

    First, whose “spidy” sense didn’t tingle when first hearing about Prosper from their coworkers? Although it is a cool idea, it is the first clue something might be wrong. So, what is Prosper selling to the investor? Investing in Prosper is like investing in Junk bonds, but with more risks. For example, investors pay par value at Prosper with a credit rating system that can’t be relied upon. If those alone aren’t enough, we all know there is no principal protection. Benjamin Graham would certainly disapprove.

    From another angle, Prosper seems to be run much like a brokerage. They encourage trading and take a % fee from the creditor and debtor (% hurts even more at par). Looks like Prosper is “prospering” from unsuspecting investors looking for higher returns, using an ingenious disguise as a “new marketplace” rather than the debt security marketplace. Further, the madness continues as everyone seems to be preoccupied with understanding, analyzing, and measuring its risk. The management team’s bio’s alone were enough to scare me.

    They guy who said the Prosper default rates were worse than “sub-prime loans” probably didn’t realize what he was actually on to… Any other accountants with an opinion? Can anyone explain why investors would be better off putting their money into Prosper rather than low-grade/junk bonds?

  26. Prosper’s mirror image Lending Club has stopped lending pending their registration with SEC.

  27. Chrisfs says:

    Prosper has eliminated State lending caps in all but two states now.

    @Scott, Prosper is a ‘brokerage’ because they simply handle the transaction and the loan servicing, and charging for that much like Ebay.
    But since there is no secondary market, I don’t see how you can say they ‘encourage trading’ There is no secondary market to trade in. At this point, lenders are committed for the full term of the loan (and that’s explained going in).
    Prosper loans cover a wide spread of credit ratings. People from spotless credit to people with big credit problems. If you average them together, the default rate doesn’t look too good, but if you separate out listings with different credit info, there are definitely some good opportunities there.

  28. I’ve been on prosper for about 6 mos. I have ~525 loans and so far 2 “Lates” (probably bad), 1 more than 30 days late (bad) and about 6 <15 dyas late… but these are ussually folks that are withing the 15 day grace period… just as I do. In my math, with an avg return of 14+% that’s prety good and I’ve got NO complaints. I understand, in the ned I’ll have defaults, and that will impact my overall return, but if I clear 7% or better (and I’m thinking it will be better than 10), I’ll be very happy. I’m not saying the data supplied abve is wrong… I don’t know, but I am making pretty darn good money on prosper. Way better than any other method available today. Keep in mind, you have all the data in front of you and you can pick your loans, although I use the portfolio plans and let prosper do the work for me. Anyway, no complaints here.

  29. I’ve invested in Prosper for a little over two years.

    The default rate on my loans is about 18%; about what the author of this article found. With this economy, I won’t be surprised if I lose more.

    If the remaining loans don’t go bad, I’ll make some money. But as it stands now, with lost opportunity cost on a CD, I’m in the red.

    I’ve been pulling my cash out as payments come in because I’ve decided additional investment with Prosper is not worth my time, effort, or money.

  30. Prosper is a scam itself. It never revealed its true default rates. I have been with Prosper for a while and the default rate for me is about 20% (if you count those late for more than 2 month)! In my experience, most loans that become late for more than 2 month will default in the end.

    I now have 81 current, 9 charge off, 1 late, 2 1 month late, 4 2 months late, 5 3 months late, and 2 4+ months late. It is shame on Prosper that they don’t charge off the 2 late loans even though bankruptcy filed.

    Interestingly, many of the lates and bankrupt borrowers had AA or A when they posted on Prosper to borrow. I think a criminal charge should be filed for those people who deliberately cheap on giving a false story.

  31. DTI calculations, and therefore the grades received, are misleading on Prosper. I have tested Prosper and am running a 28.5% default rate on my portfolio. I think one of the big flaws is the way that they grade the loans.
    I reviewed a recent posting where the borrower listed all of their income and debts. The DTI based on his account was 65% the Prosper posted DTI was 7% – HUGE DIFFERENCE – and the guy was an A grade. An email to Prosper was promplty responded to with their formula for DTI – even though the borrower had a, self-disclosed, much higher DTI. As a result people will be buying based on misleading grade and the borrower will receive a undeserved low rate.

    THEY ARE WRONG, THEY KNOW THEY ARE WRONG AND ARE DOING NOTHING ABOUT IT – SHAME ON THEM – ***BUYER BEWARE***

    This is a great microcosm for the current financial crisis. Buyers trying to get loans that they cannot afford and lenders are enabling.

Trackbacks

  1. WP 2.5 Sunday Roundup says:

    [...] My Money Blog, Jonathan has taken a look at the Prosper delinquent and defaulting stats. Not terribly [...]

  2. Carnival of Peer-to-Peer Lending #7 — Rate Cuts Hit Prosper | Moolanomy says:

    [...] Prosper P2P Lending Update #2: Scary Graph and Stats at My Money Blog [...]

  3. [...] More posts: Review Part 1, Review Part 2, Default rates, Scary graph [...]

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