Stories this morning in the New York Times, TechCrunch, and Valleywag are spelling the doom of the peer-to-peer lending business. Battered by high default rates, regulatory blocks, and investors skittish to fund new concepts with their own cash, the model appears to be one for happier times. In this economy, who wants to monkey around with flaky Web 2.0 financial instruments?
But perhaps it's not the model itself that's flawed, it's just the implementation and the timing. One of the peer-to-peer lenders, Lending Club, just this week received regulatory approval to pursue not just peer-to-peer lending but a secondary market in which lenders can package up their loans and sell them to other Lending Club investors. The company applied for the approval six months ago, CEO and founder Renaud Laplanche told me.
Furthermore, unlike other P2P lending sites that serve people who can't get a reasonable loan through normal channels, Lending Club, with its high threshold for admitting borrowers into the system (it denies 86% of applications and has only a 1.7% default rate on loans), instead serves as a more cost-effective lender for people who would normally have no trouble getting loans through traditional channels.
The opportunity for Lending Club is that even grade-A borrowers can't easily get loans right now. Not because they're risky investments, but because the banks have spasmed shut their coffers. Many are now as closed to making good loans as they were irresponsibly open to taking on sub-prime debt a year ago.
And with the stock market whipsawing, Lending Club is seeing investors signing up for the service that should be more predictable. They're using it as a new part of a diversified portfolio strategy: Stocks, bonds, and now, loan portfolios (the typical lender spreads their money among 50 to 100 loans). The secondary market adds liquidity to the portfolios, as well. I think it could also add speculation and instability, but Laplanche maintains that a secondary market for quality financial products actually improves the value for all concerned without introducing outsize risk.
There are challenges for Lending Club on both the lending and borrowing side. The supply of funds for lending is down since most peoples' investable assets have declined, but there's the diversification strategy in light of the stock market that's helping. And the number of potentially qualified borrowers is impacted by the increase in unemployment and personal bankruptcy; but again, the close-fisted banking system is pulling people to the service. Laplanche says, "The approval rate is going down, but the number of applications is going up."
The tough economy could be a net benefit for Lending Club, and possibly other P2P lenders. It's too early to write off this model.