Sean Murray is the President and Chief Editor of deBanked and the founder of the Broker Fair Conference. Connect with me on LinkedIn or follow me on twitter. You can view all future deBanked events here.
Articles by Sean Murray
Lending Club Loan Size Cap Raised to $40,000 (Should Investors Be Worried?)
March 5, 2016
Consumers can now borrow up to $40,000, an increase from the previous cap of $35,000.
The new maximum should raise eyebrows. That’s because while one of Lending Club’s biggest allures is the ability to refinance credit cards into a lower rate over a fixed term, there are zero safeguards in place to ensure that the borrower actually uses the proceeds to do just that. Instead, the applicant simply checks a box and if approved, gets the loan minus the origination fee wired to their bank account. That means today’s consumer can obtain 40 grand in one lump sum online. Unsecured. In their bank account. For whatever purpose. From a lending marketplace that puts none of their own money in the loans.
No Recessionary Data for Loans Over $25,000
The numbers look okay, for now. Using NSR’s backtesting tool revealed that loans of exactly $35,000 have generated higher returns for investors than loans of smaller sizes, but have a higher loss rate. This is because the interest rate increases with loan size. The all time loss rate on $35,000 loans is 6.60%, according to the tool, but Lending Club didn’t start making loans this big until February 2011, after the recession had already ended.
That in itself should be alarming because when we examine the time period of June 2007 through June 2010, when the Great Recession occurred, loss rates hit the largest loans the hardest. At that time, the maximum loan size was $25,000 and the loss rate on those was 11.54%.
With the maximum size having increased to $35,000 and now to $40,000, there is no recessionary data to indicate how these large loans will perform.
The Temptations of a Cash Windfall?
Credit cards can moderate spending habits because there is a limit on the type of goods and services one can acquire with them. With cash, consumers may be tempted to indulge themselves in other things. One has to wonder if the average consumer really needs 40 grand wired to their account on an unsecured basis with no strings attached on what to do with it.
Lending Club might have considered this already though. In December, they announced Direct Pay, a pilot program in which Lending Club actually requires borrowers to use up to 80% of the proceeds to pay off their outstanding debt. There’s one caveat, it’s only open to a category of the most risky borrowers, those with Debt-to-Income (DTI) ratios of up to 50%. Lending Club’s traditional DTI cap is 30%.
That means that investors have to rely on the ability of borrowers to do the right thing with 40 grand in unsecured cash. Should they trust them?
Big Banks Less Transparent Than Online Lenders Federal Reserve Study Finds
March 4, 2016The results are in. Dissatisfied small business borrowers are more likely to encounter transparency problems with big banks, not online lenders.
The margin of difference on this measure may have been razor thin, but the anti-online lender rhetoric isn’t matching up with borrower feedback. The 2015 Small Business Credit Survey, a comprehensive report released by the Federal Reserve, found that 33% of borrowers that were dissatisfied with a small business loan from a big bank, cited a lack of transparency as a reason. 32% of borrowers that were dissatisfied with an online lender cited a lack transparency. While both statistics show room for improvement, the results shatter the myth that online lenders are uniquely lacking in transparency.
The findings are also consistent with the results of a previous Federal Reserve study in which small business owners gave extremely high marks to online lenders for clarity (even after researchers tried to trick them). This latest report does not put online lenders in a favorable light, but it does show that a dissatisfied borrower is equally or more likely to be confused by a loan from Chase or Bank of America than they are from OnDeck or PayPal Working Capital.
Small banks were less likely than online lenders and big banks to experience dissatisfaction over transparency.
Online lenders were defined by the Fed as “alternative and marketplace lenders, including Lending Club, OnDeck, CAN Capital, and PayPal Working Capital.” Respondents could select multiple options for dissatisfaction, ensuring that a separate issue didn’t merely trump transparency.
Big banks also scored worse on difficulty of the application process. 51% of dissatisfied borrowers that got a loan from a big bank cited difficulty. Only 21% of dissatisfied borrowers that got a loan from an online lender cited difficulty.
A more difficult, lengthier, and more regulated process at big banks has apparently not led to more transparency with borrowers. The findings echo B. Doyle Mitchell Jr.’s testimony presented during a House Committee hearing last fall. Mitchell, who was speaking on behalf of the Independent Community Bankers of America, said that adding more pages to loan agreements do not make them any more clear to borrowers. “In fact it is even more cumbersome for them now,” he said.
The Federal Reserve’s own study has proven to be consistent with that assessment.
Lending Club Class Action Lawsuit Predicated on Madden v Midland Risk
March 2, 2016UPDATE: This case is unrelated to another class action filed against Lending Club on April 6th
Lending Club is the latest publicly traded online lender to get hit by a shareholder class action lawsuit (OnDeck was first). Filed in the Superior Court of the State of California, plaintiff alleges in the complaint that Lending Club misleadingly concealed the fact that:
- Lending Club had an unsustainable business model that was predicated on it being able to issue loans with extremely high and/or usurious rates across the country
- that their loan investors would not be able to enforce the extremely high and/or usurious rates imposed by Lending Club because they violated state usury laws
- that without the extremely high and/or usurious rates, the loans generated through Lending Club’s marketplace would not be attractive to investors because the loans had very high credit risk and were subject to issues concerning insufficient documentation
- that a substantial portion of its loans were issued with rates in excess of those allowed by applicable state usury laws
The action seeks “recovery, including rescission, for innocent purchasers who suffered many millions of dollars in losses when the truth about Lending Club emerged and the its stock price plummeted.”
Among the Defendants is former US Treasury Secretary Larry Summers.
The complaint alleges that the truth about Lending Club began to emerge after “the Second Circuit affirmed [in Madden v Midland] that the business model used by Lending Club was not valid because loans sold by banks to non-banks, third parties (such as Lending Club and its investors) are not exempt from state usury laws that limit interest rates.”
–In actuality, no such affirmation was made. Lending Club does not specifically use Midland Funding’s business model and the case was not about Lending Club, nor was Lending Club mentioned in it.
“Specifically, the Second Circuit observed that assignees and third-party debt buyers could not rely on the National Bank Act to export interest rates that were legal in one state but usurious in another, to the states where those rates were impermissible,” the complaint states.
–Perhaps, but Lending Club’s bank makes loans under the Federal Deposit Insurance Act, not the National Bank Act.
As supporting evidence, the complaint cites statements from Moody’s analysts, Morgan Stanley, Cross River Bank CEO Gilles Gade, and Lending Club CEO Renaud Laplanche himself in a quarterly earnings call.
While the impact of Madden v Midland has been seriously overblown, Lending Club’s stock has no doubt taken a beating since its IPO. The complaint states a loss of 43% from the original offering price. Among the defendants are:
- LendingClub Corporation
- Renaud Laplanche
- Carrie Dolan
- Daniel Ciporin
- Jeffrey Crowe
- Rebecca Lynn
- John J. Mack
- Mary Meeker
- John C. (Hans) Morris
- Lawrence Summers
- Simon Williams
- Morgan Stanley & Co. LLC
- Goldman, Sachs & Co.
- Credit Suisse Securities (USA) LLC
- Citigroup Global Markets Inc.
- Allen & Company LLC
- Stifel, Nicolaus & Company, Incorporated
- BMO Capital markets Corp.
- William Blair & Company, L.L.C.
- Wells Fargo Securities, LLC
NOTE: This case is unrelated to another class action filed against Lending Club on April 6th
Is Jamie Dimon in Favor of Stacking?
March 2, 2016In a featured interview with Bloomberg Markets, JPMorgan Chase CEO Jamie Dimon made a curious argument about small business lending. Speaking about tech-based lenders, Dimon paints the following picture:
For example, they might lend to one of our customers who’s got a $200,000 JPMorgan Chase loan, and this person wants to get another $20,000 for a new truck or a piece of equipment. And what does he do? He goes with them, because he gets it in 15 minutes. If he goes back to the bank, he may have to go through this whole big long process for that $20,000.
Can we do something like that? Of course we can. I’ve asked our people, “Why don’t we just put a revolver on top of our basic loan?” Make it easier for the client.
Whether intentional or not, Dimon’s example is the classic argument made in favor of stacking in the merchant cash advance industry and it’s entirely about doing right by the client. He also said there is nothing mystical about tech-based lenders. “They’re very good at reducing the pain points,” he said. “They can underwrite it quicker using—I’m just going to call it big data, for lack of a better term: ‘Why does it take two weeks? Why can’t you do it in 15 minutes?”’
Canadian Small Business Loan Marketplace Suspends Operations After Run-in With Securities Regulators
March 2, 2016Lending Loop, which describes itself as an online marketplace for Canadians to lend money to growing local businesses, has voluntarily suspended the posting of new loan requests since it is engaged in talks with the Ontario Securities Commission.
Ontario regulators started cracking down on peer-to-peer lending last June. “If you are approaching any Ontario investors to fund peer-to-peer loans or loan portfolios, then you should be talking to the OSC about securities law requirements, including whether you need to be registered or require a prospectus,” said Debra Foubert, Director of Compliance and Registrant Regulation at the OSC, in a news release.
The directive is not unlike the system set up for such lenders in the US. Lending Club and Prosper for example, issue a prospectus and file a registration statement for every single loan with the SEC.
“Lending Loop is Canada’s first peer-to-peer lending marketplace,” the website states. “Our core focus is providing businesses with accessible capital at fair interest rates through a simple online process.”
At present, the investor signup page has been replaced with a button to subscribe to their newsletter to find out when investing opportunities might resume.
The Yield Bubble of Marketplace Lending
March 2, 2016
There was a twinkle in his eye, the sort of glimmer one gets when they’ve just learned of a hidden treasure. “It’s called marketplace lending,” I said to him, “and it allows you to invest in loans online. It can be a nice way to diversify your overall portfolio.”
The more I described it, the more it whet his appetite. “Yes, I like it. That sounds awesome,” he said, followed by a huge toothy smile. I was the one seemingly drawing a map to the secret trove of Wall Street riches. Marketplace lending, whatever my old college friend was envisioning it to be, was going to make him a millionaire. He was sure of it. All this techie stuff was involved, big name financial institutions were backing it and Silicon Valley all-stars were driving it. It was all very exciting to him.
“I’m making about 7% on one platform and like 9% on another one, but those are the,” I was saying until he interrupted me.
“–WHAT?! THAT’S IT?”
His dreams crushed by the potential for only single digit returns, he could only laugh at himself for dreaming so big and then at me for thinking numbers like that were worth discussing at all.
I was almost sorry I brought it up.
Somewhere out there, American Greed‘s Stacy Keach is probably shaking his head. On the TV show that he famously narrates, guest law enforcement officials regularly warn people that double digit investment returns are a sure sign of a Ponzi scheme or fraud. Worse, they advise that smart scam artists advertise lower rates like 7-9% so as not to arouse suspicion. The moral of every story? Even those enticed by single digit percentage returns as high as those are partially guilty for being scammed because they too were driven by blinding greed.
And yet there are opportunities to all kinds of people these days that have never have been available before in the past. I know individual investors who regularly make over 20% a year in commercial financing and seriously believe that anything less is an outrage. There are those touting success by earning only 9% through consumer lending and writing blogs to share exactly how they did it. And then there are people who look to double or triple their money and succeed at it.
How to reconcile these new classes of investors in a near-zero interest rate environment when my local bank is paying 5 basis points annually on a savings account and up to 60 basis points annually on a high-yield investment? At times I feel like I am stepping into an alternate reality. Just recently, my bank pitched me on a structured investment that would still gross less than 1% a year. It was presented as something exclusive, exotic and high risk. That’s supposedly why the yield was so high. It was the kind of risk that required a minimum $250,000 investment, you know to see if I was serious about sitting at the big boy table of yield. And we were seriously talking about 60 basis points…
The buildup on their presentation fell so flat that I laughed at myself and then at them for thinking that it was worth discussing at all. Deja vu.
The first time I ever invested in a merchant cash advance, it was at a 1.49 factor rate. It had the potential to cycle through to completion in just two to three months. Do a few of those a year as a passive investor and you could earn triple digit percentage returns. Not a scam, not a Ponzi, totally legit. It was a seemingly real hidden treasure.
The deal went bad in the 2nd week and I took an almost complete loss on my investment. With great reward comes great risk, but I knew that already. I participated in more deals and lo and behold was able to generate double digit percentage returns even after defaults and commissions.
Double digit returns are a real thing. Peter Renton’s investment in the Direct Lending Fund is earning 13.29% according to his latest update. The Direct Lending Fund “owns a diversified pool of high-yielding, 3-36 month business notes. The notes are purchased from a number of lenders including IOUCentral.com and QuarterSpot,” according to their website. “These lenders make loans to qualified, established businesses that fit our strict filtering criteria.”
While very impressive, the fund’s returns are not too good to be true. CNBC labeled it a new flavor of fixed income when interviewing the fund’s founder. In that interview, it was said that returns are ranging from 6% to 14% and that access could soon be open to unaccredited investors as well. Lending Club, a publicly traded loan marketplace, advertises that 99.9% of its investors that buy 100+ notes on their platform have earned positive returns, a fantastically alluring statistic.
My bankers assured me no such investments could legitimately exist. Yet these yields are typical for marketplace lending investors today, and would be considered outrageously low to commercial financing’s high risk crowd. To that end, I know investors that have doubled and tripled their money over a few short years. If they could narrate their own version of American Greed it would be to say that 7% definitely is a sign of criminal intent, because it’s criminally low. “Never settle for less than double digit returns,” I imagine they would advise.
Marketplace lending has created investing anomalies. What shouldn’t be, is. It’s a bad time to be out of the loop. And it’s a bad time to put $250,000 in a non-FDIC insured investment that earns less than 1% a year. There’s always the stock market, you know, if you’re in to that kind of thing. Nobody I know ever talks about the stock market. It’s goes up, it goes down. It can be very emotional.
The new way to avoid the roller coaster is marketplace lending. These returns for the little guy are not supposed to exist and yet they do. 6%, 7%, 9%, 20%, 100%. Take your pick.
Yield is out there.
Letter From the Editor – March/April 2016
March 1, 2016
In early 2016, a recession seemed inevitable, until it didn’t. Rumors of rising defaults across a variety of marketplace lenders have been defended as falling within model estimates. The stock market’s sudden plunge recovered. And Madden v Midland’s long-term impact is being chalked up as overblown. All is well again, well mostly anyway. Institutional investors have gotten a little spooked and the once insatiable appetite seems to have become just a little bit satiable.
But we’re back, and so is the beast that has come to be known as “marketplace lending.” The FDIC says that term can encompass unsecured consumer loans, debt consolidation loans, auto loans, purchase financing, real estate loans, merchant cash advance, medical patient financing, and small business loans. It can “include any practice of pairing borrowers and lenders through the use of an online platform without a traditional bank intermediary,” they wrote in their Winter 2015 Supervisory Insights report.
In this issue, we examined one piece of marketplace lending that has created many success stories, the merchant cash advance industry. For years, it’s turned hungry 20 somethings into front-page worthy stars. Will that trend continue or has the moment passed? The quality of leads will play a role in who makes it big and who doesn’t, said some of the folks we interviewed. Ironically, while the industry is often considered to be online, the Internet is reportedly becoming a less reliable place to acquire customers because of competition and cost. Having problems with leads? You’re not alone, we’ve learned.
But not everyone is struggling. In March, we published a list of the top 8 alternative small business funders of 2015. The numbers were either reported to us directly or we determined them using publicly available information. In this issue, we’ve got the year-over-year statistics for 18 companies. Some of them might surprise you.
I don’t want to finish off my introduction to this issue with the R-word, but since there were signs of weakness earlier this year, we did ask the wider marketplace lending industry what to expect from the next recession. Everything is at risk, they said, from borrower defaults to institutional backing to regulatory action. Marketplace lending, however big and strong it is now, is not believed to be impervious to market forces. Will the beast prevail? Or is it destined to fail?
–Sean Murray
Task Force Convenes to Investigate Terrorism Financing
March 1, 2016
It’s a hearing that the country probably wishes it didn’t have to have. But after it was discovered the San Bernardino terrorists had obtained a loan from an online lending marketplace, government officials and news media wondered if something could’ve been done to prevent it.
Today, members of the House Committee on Financial Services are convening the terrorism financing task force for a hearing titled, “Helping the Developing World Fight Terror Finance.”
“As terrorist financing and other illicit financial activity continues to pose risks to the international financial system, some have called for greater [anti-money laundering / combating the financing of terrorism] cooperation between, and among, national and international agencies,” reads a memo circulated in advance of the hearing.
Back in December, committee spokesman Jeff Emerson said that the task force was expected to look at whether any new regulations are needed after the San Bernardino shootings, according to the Los Angeles Times.
The Hill reported that when asked whether online lenders would get extra scrutiny, Committee Chairman Jeb Hensarling said, “Everything’s on the table.”
In the latest memo however, the words online, marketplace lending, Prosper and other related terms were not on the agenda, but that may be perhaps because the focus of this hearing is on the “developing world.”
The last time this task force was convened was a month ago on February 3rd, when they held a hearing titled, “Trading with the Enemy: Trade-Based Money Laundering is the Growth Industry in Terror Finance.” Online lending was not part of that agenda either.
It is uncertain if online lending will actually become a focus or be discussed by this task force in the future. At this point, it does not appear to be a pressing matter.
