Peer-to-peer lending site, LendingClub has had the investment community abuzz lately. Touted as a banking industry disruptor, it has everyone talking about getting a piece of the social lending pie. However, unless you have been following this company closely, you may not understand LendingClub’s model. Luckily for you, Double Agent is here to explain the basics. Let’s start with defining peer-to-peer lending.
Peer-to-Peer Lending Defined
Peer-to-peer lending is a method of crowdfunding another person’s loan through the use of a website instead of a traditional funding institution like a bank. The individual borrowers on the site are everyday people that want to take out a loan at a lower interest rate than they would normally receive – generally used to pay down credit card debt. Investors benefit from depositing money to a peer-to-peer lending site because they can potentially yield higher returns on their money than using a regular savings account. Because these marketplaces are online, they save on overhead costs which allows them to pass along better rates to borrowers and investors.
What is LendingClub?
LendingClub is a peer-to-peer lending online marketplace that allows responsible borrowers to meet investors willing to lend them money for a loan at a much lower rate. Borrowers can take up to $35,000 with an APR between 6.78% to 29.99% depending on their creditworthiness. Investors are able to own pieces of individual loans, known as notes, for as little as $25 each and can spread their investment across several of them.
How Does LendingClub Work?
The site provides the borrower an application that uses online data to assess the borrower’s creditworthiness and risk. Using this information, the site determines the borrower’s approved interest rate and notifies them. Once the loan is accepted, it is graded and put out into the marketplace to show each investor the amount of risk involved for that particular loan. Using this information, investors choose which notes they want to invest in and can select several to reduce the impact of risk should a loan default. Investors then receive money from the borrowers who follow a fixed bank draft payment plan.
Qualifications to Invest on Lending Club
Before beginning to invest on LendingClub, potential investors must meet state residence and financial suitability requirements as prescribed by the company.
Pros for Lenders
● Legitimate Investment Platform – The site is a legitimate way to invest and borrow money and is registered with the Securities Exchange Commission.
● Selective Loan Approval Process – LendingClub is selective and only takes applicants with a FICO credit score of at least 660. In fact in 2013, they rejected up to 90% of applications they received.
● Gradable Investments - The LendingClub platform uses several types of measurements to grade a borrower’s creditworthiness and displays this information so that an investor is aware of the level of risk for each individual borrower.
● Diversification of Investments – While there is risk of a borrower defaulting on their loan, the risk is minimized by allowing lenders to diversify their portfolio of investments across several notes.
Cons for Lenders
● Unsecured Debt – Unlike other traditional models of personal loan lending, peer-to-peer lending on sites like Lending Club are unsecured. This means that there is no collateral to help back up a person’s investment should the borrower default.
● Active Investment Model – At the moment, there is no way to automatically filter which loans you want to invest in, such as finding people that earn a specific annual income. The investor has to actively seek out this information, unlike other investment models that automatically do it for you through an asset allocation plan.
● Young Industry – This type of investment model is still in its early stages. In fact, it’s so young it doesn’t neatly fit into any asset class. There is also the risk that legislation could pass that would drive it to extinction.
● Lower Returns than Estimated – Currently, LendingClub counts the full value of delinquent loans in the amount of returns reported to investors. This obviously skews the numbers to show a higher rate of return than the actual amount.
We are not financial experts, but our opinion is it is worth experimenting on the site, but tread lightly. The industry is a new one and is still getting more and more refined. If you’re curious and have time to dedicate to actively investing on a peer-to-peer platform then go for it. Like all investments, it’s an art not a science so start out slowly and learn.
Ever used a peer-to-peer lending site like LendingClub? We would love to hear about your experience in the comments below!