beating the average peer lending investment strategies scott langmack march, 2009

Beating the Average

Peer Lending Investment Strategies

Scott LangmackMarch, 2009

2

Agenda

• Peer to Peer Lending Overview• The Unbelievable Bank Industry Secret• Understanding Unsecured Credit and Defaults• Strategies for Maximizing Returns• What to Expect

Lending Is Investing?

• Two types of lending

Banks: Big, Powerful, Stable, Monolithic

Personal: The riskiest thing you can do

• Why are loans to people you know risky?

Banks will destroy your credit, come after you with lawyers and ruin your life

Your friend thinks you have “Extra Money”, you wont really miss it, and since its extra, you didn’t need it anyway

3

What If You Could Operate Like a Bank?

• For the first time in history, you can

• You can leverage Systematic selection of the best credit

borrowers Operational and Legal administration of

thousands of loans & payment processing The threat of ruining someone’s credit, and

coming after them with collections and lawyers

• All without ever getting your hands dirty

4

5 5

How To Think Of The Investment

How To Think Of The Investment

Bank Disintermediation

TAKING THE BANK OUT OF THE PICTURE

Powerful and sophisticated investing

6

The Unbelievable Bank Industry Secret

• Banks overcharge 20+ Million People

Banks overcharge the best to offer credit to the worst

Its about SHARE OF MARKET

7

8

Defaults Are Predictable

• The only thing that can possibly go wrong is that a borrower wont pay you back

• If you can know with a high degree of confidence the percentage of borrowers who will not pay you back, you can make money

• The entire trillion dollar credit card industry is based on this very real, very well known dynamic

Why Defaults Are Predictable

We are a credit society

• People with good credit get: Acceptance, options, stuff, pride Better interest rates on everything, including

mortgages

• When people default on a loan: Credit reporting agencies report broadly It means REJECTION, for credit cards,

mortgages, car loans, etc.

9

What's in a FICO Score?

10

Defaults Vary Dramatically By FICO Score

Credit card statistics for November ’08 to April ‘09

11

Default Rates are Part of the Return Formula

• Very best credit risk people• Low default risk = low interest rate loans

8%

0%

5%

10%

15%

20%

0.5%

Loan Rate Expected Defaults

0.8%

Fees

6.7%

Investment Return

12

Loan Rates Vary Based on Expected Defaults

• Higher default risk = higher interest rate loans

17%

0%

5%

10%

15%

20%

4.7%

Loan Rate Expected Defaults

0.8%

Fees

11.5%

Investment Return

13

Current Recession Adjustment

• Like banks and credit card companies, Lending Club raised rates to borrowers

20%

0%

5%

10%

15%

20%

7.7%

Loan Rate Expected Defaults

0.8%

Fees

11.5%

Investment Return

14

4 Keys To Maximizing Returns

1. Diversification is essential

2. Select for job stability

3. Select loan type

4. Select your rate and expected returns

15

16

#1 Diversification is Essential

• Best to have 400 or more notes• Make statistics work in your favor: visual example

16

Example of Ranges of Returns

Num

ber

of L

oans

Returns17

Expected Returns by Number of Loans

Example: 10 Loans

Num

ber

of L

oans

Returns18

Num

ber

of L

oans

Returns

Expected Returns by Number of Loans

Example: 100 Loans

19

Expected Returns by Number of LoansN

umbe

r of

Loa

ns

Returns

Example: 400 Loans

20

Expected Returns by Number of LoansN

umbe

r of

Loa

ns

Returns

#2 Select for Job Stability

21

Job Stability The Most Consistent Factor

• Look For: Length of employment Stability of company Quality of company Stability of industry Tenure

• Watch Our For: New jobs New careers Lower paying jobs Low tenure

22

#3 Evaluate Loan Purpose

Lending Club statistics show defaults vary by loan purpose

Data based on loans 12 months and older

Vacation

Wedding

Green Energy

Car

Medical

Credit Card Refinancing

Debt Consolidation

Other

Moving

Education

Home Down Payment

Home Improvement

Business Loan

Best

Average

Worst

23

#4 Select Your Risk/Return Mix

• More volatility in the higher ranges Example: Current LC total portfolio of loans between 12 and 18 months old:

Target Return

11%

What to Expect: Default & Return Curve

0 3 6 9 12 15 18 21 24 27 30 33 36 39

Months

0%

1%

2%

3%

4%

5%

6%

7%

8%

Delinquencies + Defaults & Charge-offs

all impact NAR

13-1=12%

13-7.5=5.5%

13-4.75=8.25%

13-4=9%

Net Annualized Return At Various Stages Of 13% Loan Portfolio (LC Fees not included)

9%

13%

12%

10%

Net

Ann

ualiz

ed P

erce

nt

24

25

200

8 L

oa

ns2

009

Lo

ans

25

: Default Curve Example

26

Beating the Average: Recap

1. Diversify x400+

2. Job stability

3. Purpose of loan

4. Select risk/reward

26