Most Online Lending investors judge the performance of their portfolios based on annualized returns. Annualized returns can be calculated using the Lending Club/Prosper return calculations as they are presented on their websites, or by manually calculating them offline using an approach such as the excel IRR function, among many other manual alternatives.
Returns are a function of (i) the amount of interest earned, (ii) the amount of principal lost due to charge offs, and (iii) the time elapsed between initial investment and repayment. An additional factor is how much cash is sitting in your account waiting to be invested. As this number grows, the growth of the investor’s net asset value is going to slow down, resulting in lower returns.
Early repayment results in an increasing amount of cash in an investor’s account, reducing the actual interest earned on the investment. Early repayments can have a significant negative impact on returns due to the time between early repayment, deciding to re-invest, and actual funding (the in-funding period).
What is the repayment behavior of Lending Club and Prosper borrowers? Do they differ based on the exchange? How about by Credit Grade? Has there been a change in behavior from 2010 – today?
The graphs below show the percentage of loans from a particular vintage that have been repaid by a certain month of tenure (e.g. 4.5% of Lending Club loans from 2010 were fully repaid within 6 months of tenure).
Lending Club vintages 2010 and 2011 behave similarly; ~4.5% of loans are paid off by month 6 and ~11% by month 12. The numbers are trending slightly lower for 2012 and 2013 (keep in mind that these vintages do not have full performance for their final time period, so they could catch up).
Prosper vintages 2010 and 2011 also behave similarly; ~8.5% of loans are paid off by month 6 and ~20% by month 12. These numbers are also trending slightly lower for 2012 and 2013 but also could catch up given a few more months of data.
Percent of Total Loans Repaid by Tenure Month
From looking at this data, it is clear that a larger proportion of Prosper’s loans pay back early than Lending Club’s. This could be due to the fact that Prosper prices its loans higher than LendingClub, so the same borrower would have more incentive to pay back earlier.
Lending Club data by credit grade shows a distinct pattern for 2010 and 2011: riskier credit grades have a lower likelihood of early payback. This trend is not so clear for the 2012 vintage, possibly as a result of changes in underwriting and pricing policies.
On the other hand, Prosper’s pattern within the credit grades is significantly less clear. Grade AA loans always pay back earlier than the others, but it’s actually the reverse for the other credit grades. We will have to see if this pattern continues in more recent vintages.
Early repayment affects returns and the efficient use of cash. The macro patterns within each exchange are very different and therefore need to be understood separately. Unlike other behavior we might see, there is a difference between Prosper and Lending Club. Given the underwriting and pricing changes that both exchanges have made over the past few years, these behaviors appear to be changing with more recent vintages. With the significant level of early repayment, an efficient method for re-investing available cash in Online Lending accounts is necessary in order to maximize returns.
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