Prosper's Unusual Pitch: New Loans Appear Riskier, by Some Metrics

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Prosper Marketplace’s first unsecured consumer loan securitization of 2017 has an unusual selling point: collateral that, by some credit metrics, would appear to be riskier, but that it nonetheless expects to perform better than its previous deals.

The $450.5 million Prosper Marketplace Issuance Trust Series 2017-1 is the marketplace lender’s first deal since it adopted a new origination platform in December that brought stricter underwriting guidelines and an improved predictive scoring model into use. hree series of notes will be issued in the transaction; the senior $283 million Class A tranche carry an A- from Fitch and an A rating from Kroll Bond Rating Agency.

The notes are backed by 9,334 three- and five-year personal loans with a remaining cumulative balance of $484.4 million. According to the presale reports, 88% of the loans in the pool were originated under the new “PMI7” credit-scoring platform, which Fitch thinks could produce “statistically significant” improvements over Prosper’s previous internal-decisioning engine.

But a more immediate result is that the underwriting improvements have allowed Prosper and origination partner Web Bank to increase some of the risk metrics, taking more loans from the lower credit tiers the company’s own internal grading system.

That increased risk isn’t apparent from the higher weighted average FICO score (707) compared to Prosper’s only deal in 2016 (704). But the average loan rate has jumped to 16.42% from last year’s 13.57%, thanks to the growing number of loans (57.5%) coming from the three lower credit tiers (C,D, and E). The grouping of lower ‘D’ tier loans has especially ballooned, comprising 17.9% of the 2017-1 pool compared to just 10% in prior Prosper deals through its Citi Held for Asset Issuance (CHAI) trust.

“While the negative shift in the internal credit tier distribution appears to contradict the positive shift observed in the FICO distribution, much of the shift in tiers is attributable to the recent introduction of the PMI7 credit model in December 2016, which was implemented to address increasing default frequency observed in recent periods,” Fitch’s presale report stated.

Fitch believes recent originations (and the assets in PMIT 2017-1) will perform better than their grade cohorts originated in 2015 and early 2016.

Nevertheless, the increase in lower-tiered loans, both Fitch and KBRA have substantially raised their expected cumulative net loss and gross default expectations for the deal over the $278.4 million CHAI 2016-PM1 transaction.

Fitch’s default assumptions for 36-month loans is up to 13.5% from 7.25% last year, for example; default assumptions for five-year loans is now 20.75% compared to 18.25% last year. KBRA’s mid-point CNL estimates are up to 15% from 10.5% last year.

The resulting bulge in lower-tier loans in the pool has forced Prosper to boost its senior note credit enhancement level to 43.5%, up from 33% last year but still below levels from Prosper’s 2015 deals that ranged from 45.5%-46.5%.

Gross charge-off levels in recent CHAI portfolios have been trending above the 2013-vintage deals; KBRA, for instance recently boosted the projected losses for CHAI 2016-PM1 to 13% from 10.61%.

The deal is co-sponsored by Jefferies, one of a group of investors purchasing that loans which will hold the risk-retention piece of the deal, according to pre-sale reports.

The transaction is the first to be issued since Prosper shut down its secondary market for loans and later secured a $5 billion loan purchase agreement with a consortium of institutional investors including Jefferies; and also with a majority of Prosper’s new management in place, including new chief executive David Kimball and president Ronald Suber. 

Prosper retreated from the market in the second and third quarters of 2016 as it reduced originations and laid off staff members.

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