While interest rates are low, bankers are tight-fisted these days leading consumers and small business owners to seek other borrowing options. Technology has come to the rescue with the internet providing a platform for peer-to-peer (PtP) lenders such as Prosper Marketplace Inc. and Lending Club Corp.
Instead of your local bank lending their depositor’s money to borrowers, all the while, allowing depositors to come withdrawal their money any time, PtP sites attract lenders who are willing to forgo the current use of their funds in order to direct the funds to those needing to borrow.
The difference in rates is striking. Depositors at Bank of America are being offered .08% for money market deposits and if they are willing to leave their money alone for three years, a whooping 1%. Of course, the FDIC is fading your action up to $250,000 and BoA won’t be allowed to fail. Meanwhile Prosper gives lenders a choice of lending risk options. Prosper rated AA loans (weighted average credit score of 816) have yielded (after credit losses) 6.3% for loans originated July 2009 to May 2010. For lenders looking for larger yields and willing to live with credit scores averaging below 650, E rated loans during the same time frame had an actual yield of 19.1%.
Bloomberg Businessweek’s latest Rate Report indicates small business borrowers are paying banks 8.38% for loans less than $100,000. But the money is hard to get. Nansee Kim-Parker borrowed $20,000 on Lending Club at 9.85% fixed for three year term to open a San Francisco motorcycle repair shop, reports the Wall Street Journal. “It’s like a village, gathering support here and there,” says Ms. Kim-Parker, who calls traditional bank credit “unaffordable” for small businesses.
PtP sites charge borrowers a fee for connecting them to lenders, who advance anywhere from $25 to $1,000. And business is growing,
San Francisco-based Prosper.com recently reported a 38% increase in total loan volume over the first quarter. In April, the site originated more than $5 million in loans, with small businesses accounting for 11% of them, a 19% increase from March, according to data provided by the site. The average small-business loan in April was $8,147. Loans being usedfor start-ups and small businesses have grown 85% in the past six months.
The SEC has taken an interest in PtP sites after Proper had a 20% default rate in its first three years. However,
Tougher screening since the SEC crackdown has cut the default rate below 3%, roughly in line with Lending Club and only slightly higher than the default rates for banks, credit cards and other traditional sources of consumer credit, according to the S&P/Experian consumer credit default index.
The pressure to decrease default rates has blocked most applicants from being able to borrow. “To date, Lending Club has refused 267,196 of 293,936 loan requests, or about 90% of all applications, based on poor credit scores, among other factors.”
With technology, borrowers small and large can be brought together from around the world. If government stays out of the way, this technology could replace fractionalized banking.