Aug102013

The explosive growth of peer to peer lending, the wild wild west

In the height of the housing bubble, banks were giving out loans to people with no jobs and no credit.  And then if equity increased in your house then the banks would offer you a HELOC loan that would allow the borrower to cash out their equity.  Then in 2008 the affordability products stopped and the ponzi scheme was over.

Since the collapse of the housing market there has been types of  borrowing that has replaced the easy credit use to be at the banks for example: 401(K) loans, crowding funding scheme, farm land fraction sales,  pay day loans, auto title loans (so you can pay off your car twice), and even subprime auto loans that have interest rates greater than 10%.  Now, peer-to-peer can be included on this list.  Unlike lending from a banks this transaction matches people with money to people with no money.  The lender, usually an individual, is hoping for a high rate of return and borrower can’t qualify at the bank.  There is no organizational lender, most of the time lenders are matched on-line with the lender selecting the borrowers.

Consumers Find Investors Eager to Make ‘Peer-to-Peer’ Loans

SAN FRANCISCO—At the new headquarters of Prosper Loans Marketplace Inc., the mission was spelled out on a whiteboard: “NEED $28,676,530.13.”

That is how much more Prosper wanted to lend to consumers by the end of June to hit a $30 million target. The twist: The money would come mainly from individual investors who trawl the company’s website looking for borrowers willing to pay them attractive returns.

Prosper and a bigger competitor based a few blocks away, Lending Club Corp., dominate an obscure corner of the financial-services sector called “peer-to-peer” lending, in which consumers bypass banks altogether to borrow money from other individuals. It is part of a shadow-lending system that has thrived since the 2008 financial crisis caused many banks to tighten their credit standards.

There are, of course, plenty of would-be borrowers. Lately, however, there has been even greater interest from lenders—mostly individual investors so starved for high yields that they are jumping to fund unsecured, high-interest-rate loans. Even some investment funds are getting into the game, snapping up entire loans before individual investors act.

With more money chasing the loans, lenders such as Prosper are working hard to come up with enough borrowers to meet the demand. Each month, Prosper mails more than a million preapproved loan applications. In June, the company arranged $27.5 million in loans, a bit short of its goal. In July, it originated $30.3 million.

Prosper and Lending Club together originated about $871 million in loans last year, more than double the prior year’s total and up tenfold since 2008. Lending Club says it is on track to lend $2 billion this year.

Both have turned to outside investors to fund growth. This year, Prosper raised $20 million, including $10 million from Sequoia Capital, a venture-capital firm. In May, Google Inc. led a group that invested $125 million in Lending Club. Previous backers include John J. Mack, Morgan Stanley’s former chief executive, who serves on Lending Club’s board, and venture-capital firm Kleiner Perkins Caufield & Byers, whose partner Mary Meeker also is a director. Lending Club plans to branch into small-business loans and to take itself public.

It’s the same  story in the age of Quantitative Easing (QE) and the Zero Interest Rate Policy (ZIRP), savers are trying to earn more than a 1% yield offered by the banks.  So, now you have savers assuming the role of the credit card companies, pay day loan operators, and SBA lenders.  A function in the past that was primarily  performed by banks.

OK, how does this relate to housing, this concept is spreading to mortgages.

National Family Mortgage Achieves $100M in Peer-to-Peer Lending for Real Estate

BOSTON, MA–(Marketwired – Jul 15, 2013) – National Family Mortgage (http://www.nationalfamilymortgage.com) today announced that it has facilitated over $100 million in peer-to-peer lending volume, less than four months after passing $75 million in March 2013. National Family Mortgage expects to pass $200 million in peer-to-peer home loans during 2014.

“Baby Boomers seeking stronger investment yields continue to recognize the benefits of investing in their family. At the same time, as the residential real estate market heats up and institutional home loan interest rates rise, both Millennials and Generation X recognize the numerous win-win benefits of borrowing money from their family,” said National Family Mortgage CEO, Timothy Burke. “National Family Mortgage will continue to launch innovative financial products that save families money, and we will continue to efficiently serve the Financial Advisors, Tax Professionals, and Estate Planners, who value our fee-based solutions.”

Most National Family Mortgage clients report using their intra-family mortgage loan to purchase a home. Typical use cases include: (A) down payment loans secured as second mortgages, (B) one hundred percent financing, and (C) seller financing. Other National Family Mortgage clients report using their intra-family mortgage loan to refinance an existing bank mortgage, or to complete a home improvement project.

This company specializes in family to family which can make Christmas and Thanksgiving interesting if there is a default involved.  But this is a growing industry as new investors take more chances to earn yields.  This type of lending is also very risky for the lender that holding a 100% LTV loan when borrowing will probably increase in the future.

Starting in 2014, the Consumer Financial Protection Bureau (CFPB) could regulate these peer-to-peer mortgages.  The lender might have to originate the loan under comply with Qualified Mortgage rules just like a bank.  If they don’t they might not have Safe Harbor protection and might be exposed to damages by the borrower!   Basically, lender has responsibility to ensure borrower can repay the loan.  In addition, seller financing will be more regulated and be interesting to see if any borrowers sue their lenders for improper underwriting in the coming years.   Is the purpose of this Frank-Dodd regulation to make peer-to-peer lending and seller financing more difficult and return this lending back to the mega-banks?  I do think the purpose of this regulation just not about stopping risky lending, its to make smaller lenders comply big and expensive bureaucratic rules where they have a harder time to complete with mega banks.

Mike