“do applicants ever get rejected?”
Let me introduce you, at minute 1:03, to Bondora (YES it is an affiliate link, YES I will get $ if you invest and you will get $ BUT I hope you will change your mind by the end of this post).
I want to use this post as a cautionary tale about the risks investing in P2P lending and I will start with an analogy with the Great Financial Crisis. The above video is from the movie The Big Short and if you did not watch it, please give yourself a favour and buy the book.
In normal times, banks use to take the money you deposit with them and lend to others; those loans stay on the bank balance sheet, meaning if the loan defaults the bank has a loss, therefore the bank has the incentive to give loans to entities it reputes solvable and trustable.
More than a decade ago, banks started to ‘package’ those loans and sell them to external investors: those loans cease to be on the bank balance sheet and the bank get remunerated with a fee, which does not depend anymore on the loan quality.
At this point the bank has no incentive to perform the initial quality check it was doing when it originated the loan:
- because the person doing the check is a cost for the bank
- because every loan rejected is a fee less that the bank can earn
The onus of the loan quality check is now on the investor but he does not do it because he thinks the bank is not so reckless to lend money to anyone and…welcome 2007. The rating agencies should have checked as well, but again incentives, they are doing a job for the investors but get paid by the banks so…
Obviously I am (over)simplifying here but the nature of the problem does not change.
A P2P lending platform business model is more or less what I described above: they match lenders with borrowers and make a profit typically charging a fee to the borrower. The platform, if it does not invest in the loans originated, has an inherent conflict: the more loans it rejects, the higher the costs (someone/a program has to check the loan application) and the lower the revenue (no fee for a rejected loan).
Platforms that offer a buyback have a slightly different model, more aligned with investors: they lend money at i.e. 20% and pass the loan with the buyback protection to an investor at 10% yield; the yield difference helps the platform fund buybacks on defaulted loans and is an additional profit. In this case the platform can be pickier choosing borrowers because it has another profit source and has an additional incentive to invest in its credit model.
I started investing with Bondora in Feb 2015 and the reason of this post is that if I have to pick today, between the platform I invest, the next default, I put my bet on them (so at least you read it here first). Why? In short, their lending model does not work, they have too many defaults. It is not easy to create a functioning model, it’s harder if you want to automatise the bigger chunk of the process to save costs, like all p2p platforms try to do to compete with traditional banks.
How can I say that? Here my hints:
– in these five years they changed quite frequently the way they report loan performances, often becoming less and less transparent. Unfortunately it is not possible to access past reporting packages, but if you invested with them since a while you know what I mean.
– to keep the show on, they need a constant stream of new investors (Ponzi scheme anyone?): they have definitely the best UX interface, videos, blogs, articles, all elements to keep the general public engaged and ‘pretend’ they are on top of their game. Obviously this point in any other situation would have been a positive aspect.
– they have the most generous referral program and, unlike most platforms, the program is always active.
– they do a ton of online advertising.
In Part 2 I will describe my current strategy with Bondora, since I did not completely give up on it yet, and my opinion on Go&Grow (spoiler alert: not good). So far, my total return is 6.3%/year.
What I am reading now:
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