The Changing Face of 60-Month P2P Loans

There has been quite a shift in volume of 60-month p2p loans in the last few months. Both Lending Club and Prosper are showing different trends and interestingly these trends are in opposite directions.

The above chart shows the percentage of all loans (I did exclude 12-month loans at Prosper to get an apples to apples comparison) that are 60-month loans at both companies since the beginning of last year. For most of 2011 this percentage stayed within a relatively narrow range. But recently that has changed.

Lending Club Reduces the Number of 60-Month Loans

I chatted with Lending Club’s CEO, Renaud Laplanche, last week and one of the things he mentioned was that they have made a conscious decision to reduce the number of 60-month loans on the platform.

They still believe these loans are a great investment but they have been seeing more investor demand for the 36-month loans. So they have made some adjustments and are meeting the demand with more 36-month loans than ever before.

What is interesting to note is that the return spread of these loans has been reducing. Investors typically get a 2.5% premium for the longer loans to justify the additional risk involved. But that 2.5% spread has been reducing as these loans age.

When looking on Lendstats at all 60-month loans issued in 2010 you can see this. The estimated ROI (as of this writing) for all 36-month loans issued in 2010 is 5.75%. For 60-month loans the ROI is 6.49% just 0.74% more. And these loans average 19 months old so they are not even halfway through their loan cycle. It is quite possible that returns on 60-month loans will end up lagging 36-month loans when they have reached maturity.

Prosper Making More 60-Month Loans Available

Over at Prosper it is a different story. Until recently Prosper was very risk averse when it comes to 60-month loans. In 2011 these loans averaged just 9.6% of all loans on the platform (compared with 35.4% at Lending Club).

But in December, right when Lending Club was deciding to reduce their 60-month loans, Prosper decided to increase their 60-month loan offerings. Until recently 60-month loans were only allowed for loan grades AA, A, B and C. But they have expanded that to now include D and E grade 60-month loans.

Prosper only began offering 60-month loans in October 2010 and issued just 33 of these loans before the end of 2010. So, we obviously can’t deduce much return information from the older loans. But we can look at 2011 loans and these show a healthy 2.3% spread between the 36-month and 60-month loans. That may well reduce as these loans age but right now the 60-month loans are holding up well.

Prosper clearly expects these 60-month loans to perform well. All 60-month loans show a lower estimated annual loss than their 36-month counterparts.

Let’s do a direct comparison. Right now a 36-month D-grade loan has an effective yield of 23.4%. There is an estimated loss of 11.9% leaving an annual expected return of 11.5%. Now, when you compare a 60-month with a similar effective yield you get a C-grade loan with a yield of 23.32%. But the estimated loss is just 8.9% leaving an estimated return of 14.42%. Prosper thinks investors on similarly priced 60-month notes will be better off to the tune of almost 3%.

I continue to invest in both 36-month and 60-month loans and being the yield seeker that I am I have ended up with a higher proportion of 60-month loans than average. So I will be watching closely to see how these longer loans perform as they age.

What do you think? Do you invest in 60-month loans? Why or why not? As always I am interested to hear your comments.

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Laura
Laura
Apr. 19, 2012 5:58 am

I’m a Prosper lender and didn’t know there was this difference. I’ve been investing heavily in 60 month loans at Prosper for the great yields.

Bilgefisher
Apr. 19, 2012 7:14 am

I have no issues with 60 month loans. If they meet my other investing criteria, then why not?

Jason

Clint
Clint
Apr. 19, 2012 7:58 am

I agree with the others that I have no aversion to the 60 month loans. As a matter of fact, the ‘pro’ of getting payments that are so heavily weighed in interest is a pretty even trade off for the ‘con’, being the fact that the principle will be not repaid for a longer period. My plan is to reinvest that interest anyways, so if I am getting a better proportion of it for a longer period, even if the payment size is smaller than a 36 month loan, that works for me. I would imagine it is a lighter load on the borrower as well, as long as they don’t mind paying the increased interest over the extended period.

Frankie C
Frankie C
Apr. 19, 2012 8:44 am

So if LC made a conscious decision to reduce the number of 60-month loans, how is that decision implemented? Do they reject a higher percentage of the 60-month applications? If so, how is that accomplished? Does it mean that the 60-month loans we see today are selected using tougher criteria than the 36-month? See where I’m going with this?

Anil
Anil
Apr. 19, 2012 10:11 am

How is the trend looks in comparison to total loan volume basis? And also on total loan amount basis? On lending club, I am noticing the trend that 60 month loans are picked up by institutions most likely. The average funding per lender is in $500 to $1000 range for 60 months compared to $50 to $100 funding per lender for 36 months loans. I am also noticing increasing quality of 60 month loans on lending club.

Ryan
Ryan
Apr. 19, 2012 12:46 pm

Because I tend to invest primarily in low risk loans (AA-B) but still want reasonable returns (8-10%), I like the 60 month loans. While I haven’t yet used Folio, my theory is that I could sell these loans if I needed the cash.

I echo Frankie’s question of how to implement a “conscious decision to reduce the number of 60 month loans.” Why not just adjust the returns until the balance of supply and demand is reached?

Roy S
Roy S
Apr. 19, 2012 3:11 pm

I currently don’t filter the Notes based on the term. There just hasn’t been too much data on them so far, so when I go to set my filters I just ignore the term. I’ve been trying to change my filters 2 or 3 times a year so this may change in the future when more data becomes available, especially if the 60 month loans are performing significantly better or worse (the same can be said for the 12 month loans). That being said, it appears as though I’m slightly above the March average on Prosper with almost 1/3 of all my Notes invested in 60 month Notes. Conversely, less than 2% of my portfolio is in 12 month Notes.

gharkness
Apr. 19, 2012 3:49 pm

I don’t filter on time period, (I invest at Lending Club only), but I do kind of keep an eye on it. I like to have a mix of longer-term loans to increase my overall income, but I like to have some of the short-term loans to increase my immediate payments returned. At least, that’s what I prefer in my standard account. That gives me the opportunity to increase my investment more quickly, because the payments on 36-month loans are higher.

On my Roth, though….I am just trying to find as many loans as I can that meet my criteria, and sometimes that’s hard, whether it’s 36 or 60 month notes. I don’t invest in anything less risky than a D, and I’m picky about reasons for the loan. I’m not about to invest in someone’s wedding, vacation or swimming pool, because I personally don’t think you should buy those things unless you can pay for them outright.

Dan B
Dan B
Apr. 19, 2012 5:19 pm

Regarding LC 5 year notes, I take some pleasure in saying that I told you so on a few occasions here & elsewhere. When the performance gap between the 3 & 5 year notes was 3% or higher there were many here who ignored the very real possibility that the 5 year loans would have a different default timeframe versus the 3 year. But having said all that I too invested in some 5 year loans but they’ve been only 15-20% of my total at any given time. I’m glad that Lending Club has increased the number of 3 year loans. For a not inconsiderable amount of months 3 year loans were under 50% of the volume & it was a pain finding decent ones that paid a high rate.

There are a number of other reasons I’ve never liked the 5 year LC notes as an investor that I’ll perhaps cover at another time. But I’ll leave you with this thought. In the next few years, as the earliest 5 year notes head towards their 60 month mark,………………..it would be wise to go through them & sell any that have missed a payment or are on payment plans even if they show as “current”. Why? Because you’re not going to be happy if you don’t. Keep in mind that I’m referring to LC 5 year notes only. I’ll let everyone ponder the reasoning on that.

Roy S
Roy S
Apr. 19, 2012 7:07 pm

, I ha not heard/read about what Dan is referring to. I think Dan is referring to the following paragraph:

“The maturity date on a five (5) year term Note will not be extended. If a Note had a maturity date beyond five (5) years, the applicable high yield debt obligation provisions would likely apply because payments on the Notes are dependent on payments on the corresponding member loans and so have significant OID. The applicable high yield debt obligation provisions only apply to loans with terms longer than 5 years (and meet certain other requirements). The applicable high yield debt obligation provisions would disallow a deduction to LendingClub for a portion of the interest paid on the Notes.”

It is interesting that there is no such reference in Prosper’s prospectus. Either a) it does not apply to Prosper, b) Prosper does not know about it, or c) Prosper has chosen not to report it in their prospectus. If Prosper will not pay on Notes beyond 5 years, then they should report that in their prospectus. If that is the case, I will also be changing my investing strategy choosing to wait on more information regarding the 5 year Notes. I think a better solution would be for both Prosper and LC to either shorten the term of the 60 month Notes slightly to mitigate the possibility that borrowers would extend beyond the 5 year timeframe or require the issuance of new Notes for the remaining balances for borrowers who are not able to pay off the loan within 5 years. I would think, however, that investors will suffer greater losses from defaults than from loans that extend beyond 5 years. But the 5 year Notes are still too young to really say much about them at all.

Dan B
Dan B
Apr. 19, 2012 8:14 pm

Peter………….I’m impressed, I didn’t know you actually read the prospectus. 🙂 My understanding is that Lending Club uses the “payment plan” approach a helluva lot more than Prosper. So although it does apply to both companies this will essentially manifest itself practically as a Lending Club issue…………… just because of the above practice & the sheer volume of 60 month notes they’ve originated.

I’ve had several instances at LC where someone went into a payment plan without even making one payment. Very very few borrowers will make a double payment to catch up so if it’s a 60 month loan don’t count on receiving the last 1 or maybe even 2 payments on those notes. I guarantee you that this is going to be an issue down the road. Especially since very few investors are even aware of it.

Roy S
Roy S
Apr. 19, 2012 8:49 pm

@Dan, I’m not on LC, and I don’t know much about the payment plan options that LC allows borrowers to go on, but they specifically state in the prospectus, “The maturity date on a five (5) year term Note will not be extended.” So naturally my question is whether the payment plans still cap the term at 5 years. Also, upon further reflection, it sounds like the rules only apply to the term but does not go into detail about whether a Note is late for the last few payments. The term technically hasn’t changed, the borrower simply hasn’t made the payments on time. I might be getting way out into the weeds, but I’m not very knowledgeable in this area. Perhaps you, Peter or someone else with more knowledge and expertise could explain the rules and legalities of all this for the layperson. This does sound like another blog post for Peter!

Brady
Brady
Apr. 20, 2012 6:48 am

Right now my investment breakdown is:

36 month (59%)
60 month (41%)

I’m sure they can incentivise borrowers to steer away from their 60 month product by jacking up the interest rate of that loan duration vs. their 36 month product (just a guess, not sure if they are doing that).

When I recently applied for a loan on LC they offered a 8.99% rate for a 3 year loan or 12.12% for a 5 year loan (3.13% spread). I ended up going with a 6.49% 36 month loan with Prosper, but unfortunately I don’t recall what they quoted me on the 60 year to compare the spread on the two terms they offered.

Danny S
Danny S
Apr. 20, 2012 10:40 am

Very interesting article indeed.

Personally, I havent cared whether my loans were 36 or 60 months, and dont filter by that criteria.

Looking at my LC portfolio, I see its about 60% 36months, and 40% 60month loans.

I do wish LC also offered short term, 1 year loans as an option, maybe with a lower max. borrowing account. Like payday advance places but at more reasonable rates and less shady practices. I think thats a huge still untapped market.

Dan B
Dan B
Apr. 20, 2012 10:40 am

Roy S./Peter………As Peter mentioned, this unpleasant “quirk” with the 5 year loans is due to some SEC regulation, though I have no idea as to the reasoning or logic. I’ve not researched it further since I rarely buy 5 year notes & I don’t keep payment plan notes around in any case. I’m sure someone here with more of a vested interest will get to the bottom of this down the road. But like I said earlier this is just one of several reasons why I’ve never cared much for the LC 5 year notes & have therefore limited my exposure to them. But that’s another topic for another day.