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Transplant Athlete
Sunday, December 12, 2010
  My Not So Secret Lending Club Loan Criteria

Update: Now that Lending Club has raised their loan limit, these numbers have all changed. So, please don't rely on these results. You can follow the methodology to perform your own analysis on the new data.


I wanted to put all my thoughts in one spot. As always, your mileage may vary, seek professional help, past performance is no guarantee of future performance.

First some stats:
A) My oldest loan is from early 2009, but the majority of my loans were made in 2010 and the filters and the analysis that I reference were added late in the year, so those loans with the new filters have a very short history.
B) My Net Annualized Return according to Lending Club is roughly 15% as of today (this number takes into account the charge-offs). My weighted average rate is closer to 16%. I reinvest all the proceeds as quickly as possible, so my interest is compounding almost monthly
C) My average note amount is between $30 and $40 and I have 273 loans. 1 is charged off. 6 are Late 31 - 120 days. 4 are fully paid. 257 current. 5 in funding. roughly half are 3 year loans and half are 5 year.
D) 6% B grade, 13% C Grade, 23% D grade, 49% E grade, 7% F grade, 2% G Grade.

Here are the standard filters I use:
1) Min length of employment 5 years. I can't prove this one because although LC knows job tenure, they don't include it in their loanstats.csv file, but it allows me to sleep better at night.
2) Exclude Loans already invested in: I only want to loan $25 at a time until I've reached 800 loans, then I'll bump it up to $50 for 800 loans.
3) Loan Purpose: Refinancing Credit Card/Consolidate Debt (4.95% DR), Home Improvement (6.86% DR), Renewable Energy (0% DR), Car Financing(4.68%), Wedding Expenses(3.73% DR), Paying for dream vacation(1.97% DR), Major Purchase(3.37% DR), Other(2.91% DR). Most of my loans are Refinancing and Consolidating. The purpose with the highest default rate (DR)? Small Business (13.37% DR). I wish all the bad loans were as easy to spot as most of the small business loans. Most of the loans I've looked at have no business plan or experience and only a vague idea of how they're going to make money. Shipping used school buses from the US to Africa, spending $25k on a radio advertising campaign for a genre of music...
4) Interest rates D,E,F,G. My A loan paid back so quickly I only earned 17 cents in interest. My only charge-off was a D grade loan. After sweating over the riskier loans one day, I happened on a D grade loan for a very small amount ($3600 - 5 years $87/month) the borrower had good credit and I thought he/she could easily make the payments. A gimme. XXX (insert family feud buzzer sound) Survey says: charge-off. The borrower took the money and ran, no payments. The collection log says a lot of things like "phone number out of service" and "Borrower not located (skip trace)"
5) Delinquencies in the past two years: I set this to 0 (5.44% DR). 1- 3 defaults in the last two years (6.33% DR) and 4+ (8.82% DR). If I was going to use the "Months since last delinquency" filter, I would set it to either 24 or 60, but in conjunction with this filter it eliminates all the loans.
6) Revolving credit balance: I set it to less than $15k (5.13% DR). Frankly, when I pull up a credit report and it shows $100k (6.98% DR) or even $50k (5.94% DR) in revolving credit, I think my little $25 unsecured loan is at the back of a very long line of creditors.
7) Earliest Credit Line: The longer the better, but I have this set to 5 years or more. The default rate inside 5 years is 8.1%
8) I exclude relisted loans. No data here, but there might have been a reason why it didn't fund the first time.
9) Revolving balance Utilization: I set this filter to under 80%. Just above 80 to 85% is 8.9% DR, 85 - 90% 7.76% DR, 100% utilization is 8.2% DR.
* Some people give preference to homeowners, but my research says they default at the same rate as renters.
* When I first browse notes, I go to E3 and look for any 3 year notes, they had a very low default rate before the 5 year loans were introduced. Then I apply these filters and I sort the loans so that the highest interest rate appears first.
* Loan amounts: Some people swear by loans under $10k, I look for $12,001 - $13,000 (2.45% DR) and $21,001 to $22,000 (2.9% DR). I avoid $22,001 to $25,000 (DR over 8% for each $1000 increment). I avoid $20,001 to $21,000 (10% DR) and 0 - $1,000 (9% DR). Everything else is on a case by case basis. (for a better look at the other amounts, go here and compare the charge-offs to the current and fully paid.

What do I look for in a borrower?
Lenders see a very condensed credit report, not really much to base an investment decision on, so I ask questions. If the borrower cops an attitude with me or any other borrower, I skip them. It's my money, I have a very limited amount, and I need to invest it wisely. If they don't respect that by being courteous and answering questions it makes it easy to skip them and move on to the next loan. If they walked into a bank, they'd face much tougher questions, so if they can't be bothered to answer my questions, it makes me think they might cop an attitude later when it comes time to pay back the loan.
I avoid any loan where the borrower asks anything like, "How fast can I get the money?" or "I need the money yesterday for an overdue bill." These people are either going to take the money and run or they are so drowning in debt they'll say anything to get the loan.
For debt consolidation/refinancing, I want to see their debts, interest rates, and the amount they pay every month. I try to avoid people paying off a 5% loan with a 15% loan. They're just digging themselves deeper into debt. These people are just trying to get a little breathing room by lowering their payments, which tells me they're barely keeping their heads above water. I add up the amounts they pay every month to see if it is greater than the monthly payment for the loan they are applying for, that tells me if they have room in their monthly budget.
If they own a home, I want to know how much they owe and how much it's worth. Sure there are some people who will stay in a home when they owe $100,000 more than it's worth, but most people in that situation are going to hand in the keys. If they have equity in a home, they'll be easy to find by the collections agency.
In the past, I didn't really care as much about occupation, but I think I'm starting to care. Another lender, "USMC RETIRED" posted his preferred professions to lend to awhile back. I hope he doesn't mind, but I'm going to reprint it here:
Borrowers should be employed (or retired w/pensions) in federal-state-municipal civil service and military; or active health care professionals (MD, Dentist, Chiropractor, Veternarian, Phramacist, Psychologist, Psychiatrist, RN, et al); Highly trained medical technicans, i.e., ultrasound, x-ray, laboratory, chemotheray, physical therapy, et al); College and university employees (very recession proof industry), Law Enforcement, Courts, Judicial and Corrections (The IDEAL no risk whatsoever borrower is Department of Justice, Federal Bureau of Prisons employee) and Licensed professionals, i.e., Engineers, Attorneys, CPA's, RLS (Registered Land Surveyor), et al. Those borrowers have extremely low loan delinquency and default (chargeoff) rates so what risk there is remains very minimal. Avoid like the bubonic plague that swept through Eurpoe in Middle Ages borrowers employed in construction (extremely recession prone), in cyclical industries (auto manufacturing and auto sales are classic examples). in certain retail lines- especially womens clothes and accessories (first items women stop shopping for and eliminate buying in a recession), sit-down restaurants (again, first discretionary item consumers eliminate in recession because much cheaper to fix meals at home and eat them). On flip-side I do actively invest in discount retail employees, i.e., Wal-Mart, Target, Dollar Tree, Dollar General, Family Dollar, and deep-discounters, i.e., Fred's and national fast-food chains store location managers, i.e., McDonalds, Chick-Fila-A, et al.
Since defaults are supposed to be rare, I can't be sure my success rate is based on luck or these filters. Since it's possible that my success is based on luck, I think it's more instructive to look at my failures.
"Christys" D4 Loan Grade $3600 amount 5 year term. Status Charged Off. On paper this should have been a winner. The monthly payments were just $87. Gross verified income was $3,167. He/She had been employed for 5 years with Verizon Wireless. Revolving credit balance was just $2697. The loan was so small $3600 that it found funding quickly and the borrower didn't have to answer any questions. Here is the loan description they posted:Borrower added on 05/19/10 > i will be paying off the 3 credit cards i have balances on. i will also be making an additional car payment with the extra money to get me ahead on the 2nd largest bill i have, rent being the first. I am an excellent borrower because although i have some debt, all my payments are always made on time and i have great history with all the companys i do business with. i have been emplyed at the same place for 5 years.. it is a secure job in customer service and there are no plans of shipping my job overseas within the visible future. on top of that i work for a cellular company, and the way of the world these days is all about mobile communications, so i am confident my job will continue to be secure for years to come.
Borrower added on 05/19/10 > i will be using this loan to pay off the full balances on my credit cards, i also will be making a car payment with it for the following month to get me a month ahead with my auto loan. I have been at the same place of employment for 5 years, working for the largest cellular company in the US, doing customer service. there are no visible plans of moving my job overseas and being the world we are in today is so dependent on wireless communications, i am confident that my job will remain secure for years to come. i am a good borrower because, as you can see in my credit history, although there may be several open accounts, i always pay them on time and there are no written off credit acts in my history.
Are there any clues there that might have let me know this person was going to take the money and run? Who gives up a 6 year credit history and 5 years of employment for $3600?
Of my six loans Late 31 - 120 days.
"Debt Consolidation" D2 Grade 3 year $15,000 amount. He is in the Air Force and looking to pay off some bills and take a vacation. His responses were initially cagey when asked about his debts, but he eventually came through with answers. He claimed he had been a victim of identity fraud and was afraid of a repeat ordeal. He said he was halfway through a remote deployment and wanted to take his family on a vacation. The vacation part was the hiccup (for many lenders). He has been struggling to make the payments since. Since he's in the military, I'm pretty confident this loan will be paid off, but it's still late.
"Consolidate bills" E4 Grade Loan, $10,000 amount 3 year term. This person's credit score has dipped down to the lowest level. He/She is on a payment plan and stuck to it, but I don't think this loan will ever be paid off. There was a public record on file 92 months ago from a bad car accident and the borrower has been struggling with surgeries since then. This might be my only clue to why the loan is late. Somewhere Lending Club mentioned that the majority of loan charge-offs were due to medical issues and divorce.
"Wedding/Vacation" D5 grade, 3 year term, $14,500 loan amount. This one should have been easier to spot. He had a decent credit report, 9 years of job tenure, the only downside was his job in construction. The description said he was taking his girlfriend on vacation and then they were going to plan their wedding. Fine, I can live with that, I proposed to my wife when we were on vacation at Disney in 1996. One of his answers said that he and his GF got engaged ALREADY and they were going on vacation. This seemed a bit backwards to me. You go on vacation after you get married, it's called a honeymoon... In retrospect, the monthly loan payment ($510) was a large percentage of his monthly gross income ($2,333). His gross income was highly variable being in construction.
"Debt Consolidation Loan" D5 Grade, 5 years, $18,250 requested they only received $13,075. Once again a decent credit report. He has been a member of the Richmond PD for 7 years, the wife is also a Police Officer. They claimed their main problem was an $18,000 citibank debt that had jumped to a 19% rate. The revolving credit balance was a bit high at $48,028, but they were doing some things right. They lowered their spending and increased their income by picking up extra work. They had zero equity in their home, but that's better than negative equity. Borrower made 3 payments then filed for Chapter 13 Bankruptcy. I suspect that this loan will eventually be paid back, but could I have seen this one coming? I don't think so.
"Miracle Loan" E3 5 years, $11,500 loan amount. They made 1 payment. This was the inspiration for the "Exclude Loans already invested in" filter. I unfortunately didn't pay attention and made two separate investments in this loan. So, both borrowers have been teachers in the same school district for 15 years. They were making decent money and the monthly payments were very small in comparison. They weren't carrying a huge debt burden, their revolving balance was under $2,000. In retrospect, they weren't always forthcoming with their answers. When asked why they had a late payment on their record 13 months ago, we kept getting "I don't know, I'll check." When asked how much equity they had in their home, they replied, "Just moved in to home last July." They needed the loan for medical bills and car maintenance. Apparently the wife and son had surgeries. The borrower claimed that because they had tenure it would take 2 - 3 years of paperwork to lose their job and they had money socked away in a retirement fund in case of emergency. The collections log shows that they had to skip trace the borrower, so I'm guessing they lost the house and possibly their jobs. What clues were there that this might not pay off? Frankly major medical bills. Evading certain questions. The prolific use of the word "MIRACLE" throughout the listing.
I think this will be my last post about Lending Club.

 

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Comments:
Nice post. Extremely thorough!

I believe we invested in the same Ch.13 bankruptcy loan - the dual income family of Richmond, VA, law enforcement officers.

Looking back at the loan, the wife purchased a home with an interest only mortgage. Interest rates aren't exactly high these days, but I'm curious if their underwater status affected their decision to go the BK route.

Their high RCB should have been a glaring indicator for me to pass on it, but I gave them the benefit of the doubt thinking "peace officers wouldn't default on their debt." Hindsight being 20/20, debt is debt and people will do crazy things to avoid repaying it.

The good news, though, is that their case seems to be taking a while. LC tells me receiving structured repayments will take some time, but this might be my first default out of 275+ notes.
 
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I've gone through kidney failure twice. The first time in 2000, my mother donated a kidney; and again in 2008, I'm on dialysis waiting for a breakthrough in immuno-suppression medicines before seeking a new kidney.

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