The peer-to-peer lending platform expanded into new territory at the beginning of October when investment management firm, Eaglewood Capital announced the completion of the first securitization of peer-to-peer consumer loans.
The firm privately placed $53 million of bonds backed by unsecured consumer loans originated through the LendingClub Corp. Waterford Capital is lead arranger on the deal.
Peer-to-peer lending platforms were initially established to be the eBay of consumer credit. They are the intermediaries between people needing to borrow money and people who have money to invest and lend.
“Their origination activities are completely automated and online, so they have a lower cost of origination than your typical specialty finance lender or bank,” said Jonathan Barlow, CFA at Eaglewood Capital. “The lower cost of origination means better yields for investors and a better interest rate for the borrower.”
A Replacement for Home Equity
The peer-to- peer model was designed as an alternative for borrowers looking to get access to personal loans that banks were no longer writing early in the financial crisis. As home equity fell by the wayside, borrowers with “normal” FICO scores had little options for raising capital for home improvement or car repair. The peer to peer lending market provided a bridge for these borrowers to access capital. It grew as a refinancing tool.
And the space continues to grow because there hasn’t “really been a replacement product from the banks that is as competitive,” explained one investment banker.
The result is that as the market has expanded, these lenders find they have more borrowers of this product than lenders. As a result, lenders have looked for alternatives to fund growth.
Originally the capital raising platform was just peer-to-peer. Today it has evolved to a “peer-to-fund” or “peer-to-asset manager,” that, like Eaglewood, puts up the capital.
Attracting Big Investors, and Now Collateral for Securitization
Institutional investors focus on the whole loan purchases instead of the retail accounts. Much of the money from that side originates from hedge funds and those buyers can use securitization to add some leverage to their investments and increase returns. “That gives them more capital to use to purchase more loans if they chose too,” said the investment banker.
Securitization is expected to further facilitate the industry’s fast growth pace because it gives institutional investors the ability to increase capital that they can opt to reinvest in the space.
Eaglewood’s securitization was not rated, but Barlow said that his firm did enter into preliminary discussions with credit ratings agencies. “In this particular transaction we felt that the cost of getting a rating was greater than the interest savings that we would achieve with the ratings,” he said. “As we gain scale, it will be easier to justify those costs.”
Borrowers in the transaction had a weighted average FICO score of over 700 and a weighted average income of over $90,000. All of the securitized loans have terms of 36 months.
“These are primarily high credit quality, relatively high income borrowers who for one reason or another incurred credit card debt and are refinancing that debt via a lower-interest loan, lower than what they pay on their credit card,” said Barlow. “It’s a highly scalable platform that could pave the way for future, rated transactions.”
Lending to Small Businesses
Lending Club and Prosper are two of the biggest lenders in the space. Lending Club has said it is on track to originate $2 billion in loans in 2013. It expects to originate $4 billion in 2014, when it also plans to launch a small business lending platform.
Prosper has 1,960,000 members and has funded $630 million in personal loans to date. Since bringing on a new management team in January 2013, the monhtly monthly loan originations have more than tripled from $9 million a month to $32 million a month in August.
In September, Prosper announced that it raised $25 million in additional funding to accelerate the company’s growth. The round, which was led by existing partner Sequoia Capital, also included investment by BlackRock.
Barlow said that the rapid growth the space has seen is possible because these lenders aren’t subject to the same constraints as specialty finance companies and banks. Traditional lenders can only grow “via headcount branches and infrastructure ,but under the peer-to-peer lending platform, everything is done online — it’s highly automated,” he said. Lending Club operates has much lower operating costs than a traditional bank. Operating cost as a percent of outstanding loans at traditional banks is typically 5% to 7%, but at Lending Club it is less than 2%.
The peer-to-peer lending space also includes lenders that focus soley on student loans like Social Finance and CommonBond, which originally began on traditional peer-to-peer lending platforms and have since expanded to tap institutional investors.