It has been some time since I have opened my Prosper account. Finally, I logged on a few minutes ago to transfer out money again because I want keep my account free of cash since the SEC cease and desist order against Propser and the quiet period have increased the possibility that Prosper could fold. I have been worried about the default rate since that order. The SEC actions combined with all the talk on the internet of how many loans on Prosper go into default probably trigger some people to feel stupid for actually paying on their Prosper loans despite the obligation and the impact to the credit score.

So how are my Prosper Marketplace P2P loans fairing? My loans’ average loan credit grade is an A minus so I have not been chasing 30%+ low-credit-score loans. Currently, I have three late loans out of 16 loans, so 18% of my Prosper loans are late.

Update: See the bottom of this post for an update. From the time I drafted this post until a few days later, another loan is now late.

According to Eric’s CC, my estimated return is NEGATIVE 4.4%. LendingStats estimates that my Prosper ROI is between negative 4.9% and negative 9.8%. Below are the screen shots to capture the point in time statistics of my Prosper return.

I must thank the unofficial Prosper forums. Despite occasionally being a bit caustic, the members there have gathered enough information and been passionate enough in their opposition that they prevented me from losing more money on the Prosper Marketplace P2P Lending platform because I probably would have waded in a little faster without their commentary.

If you are thinking about P2P lending, read the advice to new lenders.

How is your return on investment with Prosper? Are you happy with it?

UPDATE:
Before I had time to take all the screenshots, write up a description and click the publish button on this post, a fourth of my Prosper loans is now late. It will likely to continue to go downhill from here.

Prosper Lending Portfolio Update (Jan 12, 2009)

• Pennsylvania loans or what were early Prosper lenders thinking?
• Prosper.com Correlations: Late Loans and Interest Rate Caps
• Lending Club Referral Program – It’s Official!
• Glenn Chapman on P2P lending at Prosper, Virgin, Kiva and Zopa
• Prosper.com Edits Wikipedia: Removing Criticism

I was expecting Prosper’s Quiet Period to go similar to Lending Club’s — Quiet for a few months and then come back out better than ever. Therefore, I am amazed at what I just read…

Prosper Receives a Cease and Desist Order from the SEC

Considering that Prosper was already in a quiet period and no longer talking bids on loans, this seems like an unnecessary step by the SEC, but they may have felt it was necessary to make a point. I also wonder if they had not received complaints because of their misleading marketing — including quotes in the media on horribly misleading default statistics. Or maybe it was their complete failure in collections as Prosper continued to focus on origination and not on operations.

I have transferred out all the money in my account possible and am glad that I stopped lending with Prosper some time ago.

Quotes from the Cease and Desist Letter
There were some interesting points to the cease and desist letter that I would like to highlight (any emphasis added is mine).

Prosper not vetting borrowers
These first two quotes have long been assumed by many critics of Prosper. There was belief that Prosper was doing very minimal vetting of borrowers’ personal information that lenders rely upon to make an investment decision.

Prosper assigns borrowers a credit grade based on a commercial credit score obtained from a credit bureau, but Prosper does not verify personal information, such as employment and income.

there are currently no appropriate regulatory safeguards for Prosper lenders, such as those against misleading statements by a borrower about the purpose of a loan, the borrower’s employment and income, or even the borrower’s identity, or against misleading statements by Prosper.

Prosper’s Investment Oriented Marketing Materials
It looks like it was much of Prosper’s own marketing material that may have landed them in hot water with the SEC because they sold the platform as an investment rather than simply social lending:

The notes offered by Prosper are investments. Lenders expect a profit on their investments in the form of interest… Prosper’s website has included statements that the Prosper notes provide returns superior to those offered by … equity stocks, CDs and money markets. The Prosper website has also stated that it offers lenders ways to “spread your risk out and ensure a more reliable return” … marketing to institutional lenders on the Prosper website characterizes the platform as an alternative to “stock or bond returns” that is “crucial for prudent portfolio management” in “turbulent markets.” Testimonials published on the Prosper website show that customers have used Prosper notes as investment vehicles.

Marketplace Does Not Exist for Lenders without Prosper
If you already lend on Prosper, you should be aware of this, but it is worth pointing out that without the Prosper Marketplace platform, you cannot collect on your loans. You have no right as a lender to collect from borrowers.

Prosper has the sole right to act as loan servicer of the notes. In this capacity, Prosper collects repayments of loans and interest, contacts delinquent borrowers for repayment, and reports loan payments and delinquencies to credit reporting agencies. Prosper also exclusively manages the process of referring delinquent loans to collection agencies for payment, and selling defaulted loans to debt purchasers. Since the lender does not know the borrower’s identity, the lender would be unable in any event to pursue his or her rights as a noteholder in the event of default

Cease and Desist or Cease to Exist?
With this cease and desist notice, is it possible that Prosper will cease to exist? Venture capitalists will not be interested in continuing to fund a legal toxic mess that is losing money. If Prosper fails, how will borrowers collect on their loans? As the letter from the SEC reminds us:

All lenders would be negatively affected if Prosper were unable to operate the platform… lenders are dependent upon the efforts of Prosper to realize any return on their investment… and must rely on Prosper to execute each element of the loan creation and repayment process.

Lack of Lender Sophistication
This statement from the SEC letter about the lack of lender sophistication or expertise placing Prosper under regulation is likely the reason for Globefunder having hedge fund like requirements.

Prosper notes are offered and sold on the internet to the public at large. There is no special level of financial sophistication or expertise that Prosper lenders must have.

What is next for Prosper?
Rateladder asked about liability? I wonder about criminal charges? I found at least a case in Utah where selling a security without a license resulted in criminal charges. If the Feds say that Prosper was selling securities without a license, it seems like criminal cases could follow at the state level.

For more discussion on the topic check out the unofficial Prosper Discussion board.

By the way. I have checked that the Wikipeia article has been updated with the SEC cease and desist order. I can only assume that Prosper will be smart enough to not edit their Wikipedia article from Prosper Marketplace IP addresses this time.

Loanio Next?
It looks like Loanio is in a similar legal issue boat and will be stopping operations. Which is rather unsettling since most people assumed that it took Loanio so long to launch because of legal issues and now only two months later they may already be halting operations. I am certainly glad I did not send them any money.

Full Text of the SEC Cease and Desist Letter

UNITED STATES OF AMERICA
Before the
SECURITIES AND EXCHANGE COMMISSION
SECURITIES ACT OF 1933 Release No. 8984 / November 24, 2008
ADMINISTRATIVE PROCEEDING File No. 3-13296

In the Matter of PROSPER MARKETPLACE, INC., Respondent.
ORDER INSTITUTING CEASE-AND-DESIST PROCEEDINGS PURSUANT TO SECTION 8A OF THE SECURITIES ACT OF 1933, MAKING FINDINGS, AND IMPOSING A CEASE-AND-DESIST ORDER

I.
The Securities and Exchange Commission (“Commission”) deems it appropriate that cease-and-desist proceedings be, and hereby are, instituted pursuant to Section 8A of the Securities Act of 1933 (“Securities Act”), against Prosper Marketplace, Inc. (“Prosper” or “Respondent”).

II.
In anticipation of the institution of these proceedings, Respondent has submitted an Offer of Settlement (the “Offer”) which the Commission has determined to accept. Solely for the purpose of these proceedings and any other proceedings brought by or on behalf of the Commission, or to which the Commission is a party, and without admitting or denying the findings herein, except as to the Commission’s jurisdiction over it and the subject matter of these proceedings, which are admitted, Respondent consents to the entry of this Order Instituting Cease-and-Desist Proceedings Pursuant to Section 8A of the Securities Act of 1933, Making Findings, and Imposing a Cease-and-Desist Order (“Order”), as set forth below.

III.
On the basis of this Order and Respondent’s Offer, the Commission finds that:
Respondent
Prosper is a Delaware corporation based in San Francisco, California, that owns and operates an online lending platform on its website, www.Prosper.com. Prosper was previously incorporated as JC Capital Solutions, Inc. (“JC Capital”). Prosper is a private corporation and is not registered with the Commission.

Summary
Prosper operates an online lending platform connecting borrowers with lenders. The loan notes issued by Prosper pursuant to this platform are securities and Prosper, from approximately January 2006 through October 14, 2008, violated Sections 5(a) and (c) of the Securities Act, which prohibit the offer or sale of securities without an effective registration statement or a valid exemption from registration.

Prosper’s Platform
Prosper’s lending platform functions like a double-blind auction, connecting individuals who wish to borrow money, or “borrowers,” with individuals or institutions who wish to commit to purchase loans extended to borrowers, referred to on the platform as “lenders.” Lenders and borrowers register on the website and create Prosper identities. They are prohibited from disclosing their actual identities anywhere on the Prosper website. Borrowers request three-year, fixed rate, unsecured loans in amounts between $1,000 and $25,000 by posting “listings” on the platform indicating the amount they want to borrow and the maximum interest rate they are willing to pay. Prosper assigns borrowers a credit grade based on a commercial credit score obtained from a credit bureau, but Prosper does not verify personal information, such as employment and income. Potential lenders bid on funding all or portions of loans for specified interest rates, which are typically higher than rates available from depository accounts at financial institutions. Each loan is usually funded with bids by multiple lenders. After an auction closes and a loan is fully bid upon, the borrower receives the requested loan with the interest rate fixed by Prosper at the lowest rate acceptable to all winning bidders. Individual lenders do not actually lend money directly to the borrower; rather, the borrower receives a loan from a bank with which Prosper has contracted. The interests in that loan are then sold and assigned through Prosper to the lenders, with each lender receiving an individual non-recourse promissory note.
Since the inception of its platform in January 2006, Prosper has initiated approximately $174 million in loans. Prosper collects an origination fee from each borrower of one to three percent of loan proceeds and collects servicing fees from each lender from loan payments at an annual rate of one percent of the outstanding principal balance of the notes. Prosper administers the collection of loan payments from the borrower and the distribution of such payments to the lenders. Prosper also initiates collection of past due loans from borrowers and assigns delinquent loan accounts to collection agencies. Lenders and borrowers are prohibited from transacting directly and are unable to learn each others’ true identities.

Discussion
The notes offered by Prosper are investments. Lenders expect a profit on their investments in the form of interest, which is at a rate generally higher than that available from depository accounts at financial institutions. Prosper’s website has included statements that the Prosper notes provide returns superior to those offered by alternative investments such as equity stocks, CDs and money markets. The Prosper website has also stated that it offers lenders ways to “spread your risk out and ensure a more reliable return” and describes how lenders are allowed to use payments from an outstanding loan to purchase a new loan “in order to maximize returns.” In addition, marketing to institutional lenders on the Prosper website characterizes the platform as an alternative to “stock or bond returns” that is “crucial for prudent portfolio management” in “turbulent markets.” Testimonials published on the Prosper website show that customers have used Prosper notes as investment vehicles. Prosper also offers Portfolio Plans that allow lenders to automatically bid on loans based on estimates of risk and return characterized by Prosper.

Lenders rely on the efforts of Prosper because Prosper’s efforts are instrumental to realizing a return on the lenders’ investments. Prosper lenders are effectively passive with respect to elements important to realizing profit on their investments and Prosper is instrumental in each of these elements. Prosper established and maintains the website platform, without which none of the loan transactions could be effected. Prosper provides mechanisms for attracting lenders and borrowers, facilitating the exchange of information between borrowers and lenders, coordinating bids, and effecting the loans. It provides borrower information to potential lenders via the loan listings, including credit ratings. Prosper provides a matrix for evaluating performance and potential returns in the form of historical loan performance, Prosper Marketplace and individual borrower performance, and delinquency activity, among other things. Prosper manages the bidding and subscription process for every loan and has the sole contractual right to service the loans, including administering the borrower and lender accounts, and providing monthly statements that reflect payments made and received on the loan notes, as well as amounts available for bidding on new notes.
Furthermore, under the terms of the notes, Prosper has the sole right to act as loan servicer of the notes. In this capacity, Prosper collects repayments of loans and interest, contacts delinquent borrowers for repayment, and reports loan payments and delinquencies to credit reporting agencies. Prosper also exclusively manages the process of referring delinquent loans to collection agencies for payment, and selling defaulted loans to debt purchasers. Since the lender does not know the borrower’s identity, the lender would be unable in any event to pursue his or her rights as a noteholder in the event of default. Further, if a lender chooses to participate in Prosper’s Portfolio Plan, whereby lenders are permitted to choose portfolios that automatically allocate the lender’s funds among various loans based on risk and return characteristics categorized by Prosper, Prosper chooses the loans on which a bid is made. Lastly, the continued existence and operation of the Prosper platform is essential to the loan transactions taking place. Prosper lenders are too geographically diverse and diffuse to come together without Prosper. They lack the requisite experience to run a loan auction or to create and service a loan package. Rather, the Prosper lenders rely on Prosper’s continued operation of the platform in order to transact and to recoup any gain on their investments.

Legal Discussion
The notes offered by Prosper are securities pursuant to Section 2(a)(1) of the Securities Act and under the Supreme Court’s decisions in both SEC v. W. J. Howey Co., 328 U.S. 293 (1946), and Reves v. Ernst & Young, Inc., 494 U.S. 56 (1990).

A. Application of the Howey Investment Contract Analysis
Pursuant to SEC v. W. J. Howey Co., 328 U.S. 293 (1946), an investment contract exists if there is present “an investment of money in a common enterprise with profits to come solely from the efforts of others.” Id. at 301. An investment contract is a security under Section 2(a)(1) of the Securities Act, the offer or sale of which must be registered pursuant to Section 5 of the Securities Act.
The financial instrument offered by Prosper meets the definition of an investment contract as set forth in Howey. As discussed above, there is an investment of money when lenders invest money to purchase a loan. The lenders bear one-hundred percent of the risk of loss each time they fund a Prosper loan because the Prosper loans are non-recourse.

There is a common enterprise for several reasons. For example, a common enterprise exists because lenders and borrowers are dependent on Prosper in order to engage in new loans or to complete the timely repayment of loans already funded. A common enterprise also exists because the vast majority of Prosper loans are funded by more than one lender and because the majority of lenders fund more than one loan. All lenders would be negatively affected if Prosper were unable to operate the platform. In addition, there is a common enterprise between Prosper and its members because borrowers pay Prosper an origination fee of one to three percent of the loan, and each lender pays annual servicing fees to Prosper of one percent of the outstanding principal balance of the notes.
Further, lenders are dependent upon the efforts of Prosper to realize any return on their investment. As discussed above, borrowers and lenders are prohibited from transacting directly and must rely on Prosper to execute each element of the loan creation and repayment process.

B. Application of the Reves Note Analysis
A note is presumed to be a security under the Supreme Court’s opinion in Reves v. Ernst & Young, 494 U.S. 56 (1990), unless it is of a type specifically identified as a non-security. The types of non-security notes identified in Reves include notes delivered in a consumer financing; notes secured by a mortgage on a home; short-term notes secured by a lien on a small business or its assets; short-term notes evidenced by accounts receivable; notes evidencing “character” loans to bank customers; notes formalizing open account debts incurred in the ordinary course of business; and notes evidencing loans from commercial banks for ordinary operations. Id. at 65. A note that is not among the list identified in Reves is a security unless it bears a “strong family resemblance” to the non-security notes identified in the opinion. Id. at 64-65. Reves established a four-part family resemblance test to determine whether a note is a security, which is comprised of the following factors: (i) the motivations of the buyer and seller; (ii) the plan of distribution; (iii) the reasonable expectations of the investing public; and (iv) the existence of an alternate regulatory regime. Id. at 66-67. If a note fails the family resemblance test, it is deemed a security and the offer or sale of such security must be registered pursuant to Section 5 of the Securities Act. The Prosper loan notes are securities under Reves because they do not fall into any of the enumerated categories of non-security notes, and they fail the family resemblance test.

With regard to the motivations of the buyer and seller, as discussed above, Prosper lenders are motivated by the desire to obtain a better return on their money than they otherwise could in another venue. While some Prosper lenders may be motivated, in part, by altruism, altruistic and profit motives are not mutually exclusive. See In the Matter of Robin Bruce McNabb, Rel. No. 34-43411 (Oct. 4, 2000), aff’d, 298 F.3d 1126 (9th Cir. 2002).

With respect to the plan of distribution, the Prosper notes are offered and sold on the internet to the public at large. There is no special level of financial sophistication or expertise that Prosper lenders must have. This wide dissemination and solicitation to the public with no attempt to limit investors is indicative of a security. See Reves, 494 U.S. at 68 (the notes “were…offered and sold to a broad segment of the public, and that is all we have held to be necessary to establish the requisite ‘common trading’ in an instrument”); Pollack v. Laidlaw Holdings, Inc., 27 F.3d 808, 814 (2d Cir. 1994) (concluding that the broad-based, unrestricted sales to the general investing public supported a finding that mortgage participations were securities under federal securities laws).

In analyzing the expectations of the investing public, the lenders in this instance, the relevant issue is what a reasonable investor would believe about the character of the transaction, “even where an economic analysis of the circumstances of the particular transaction might suggest that the instruments are not ‘securities’ as used in that transaction.” Reves, 494 U.S. at 66. The manner in which a transaction is characterized in advertisements is illustrative, and whether there is a “valuable return on an investment, which undoubtedly includes interest.” Id. at 69. As discussed above, Prosper lenders reasonably expect a valuable return on loaned funds and would reasonably believe that the Prosper loans are investments.

Finally, with regard to whether an alternate regulatory scheme exists to reduce risk to potential investors, there are currently no appropriate regulatory safeguards for Prosper lenders, such as those against misleading statements by a borrower about the purpose of a loan, the borrower’s employment and income, or even the borrower’s identity, or against misleading statements by Prosper.
Thus, the Prosper notes are securities under Reves because: (i) Prosper lenders are motivated by an expected return on their funds; (ii) the Prosper loans are offered to the general public; (iii) a reasonable investor would likely expect that the Prosper loans are investments; and (iv) there is no alternate regulatory scheme that reduces the risks to investors presented by the platform.

As a result of the conduct described above, Prosper violated Section 5(a) of the Securities Act, which states that unless a registration statement is in effect as to a security, it shall be unlawful for any person, directly or indirectly, to make use of any means or instruments of transportation or communication in interstate commerce or of the mails to sell such security through the use or medium of any prospectus or otherwise; or to carry or cause to be carried through the mails or in interstate commerce, by any means or instruments of transportation, any such security for the purpose of sale or for delivery after sale.

Also as a result of the conduct described above, Prosper violated Section 5(c) of the Securities Act, which states that it shall be unlawful for any person, directly or indirectly, to make use of any means or instruments of transportation or communication in interstate commerce or of the mails to offer to sell or offer to buy through the use or medium of any prospectus or otherwise any security, unless a registration statement has been filed as to such security.
IV.

In view of the foregoing, the Commission deems it appropriate to impose the sanctions agreed to in Respondent Prosper’s Offer.

Accordingly, it is hereby ORDERED that:
Pursuant to Section 8A of the Securities Act, Respondent Prosper cease and desist from committing or causing any violations and any future violations of Sections 5(a) and (c) of the Securities Act.
By the Commission.
Florence E. Harmon Acting Secretary

• Lending Club SEC Update During the Quiet Period
• Prosper Marketplace Enters Quiet Period
• Lending Club Secondary Market for Loans Requirements
• Lending Club’s SEC S-1 Risks
• One Year Review: My Prosper Lending Experience

the lending club referral program is dead

It does not surprise me that the closure of the Prosper referral program follows the announcement of the Prosper quiet period. This is the same pattern that Lending Club followed — except Lending Club announced the quiet period at the exact same time they closed the referral program. I hope that Lending Club’s referral program returns soon now that they have exited their quiet period and returned to P2P lending.

Here is the note from Prosper announcing the end of the referral program that I received tonight:

Dear XXXX,

We are writing to inform you that the Prosper Referral Program has been shut down and is no longer in effect. Our lender activity is limited. Click here to learn more.

As a result we request you take down any reference to Prosper immediately.

Thank you for your immediate attention in this matter.

Sincerely,
Prosper

Update: I had forgotten that Prosper had announced the referral program was over in July. I had forgotten because they still recently paid out a referral bonus to me, so I am not certain if the July announcement had ever been enforced. I am wondering if they had wanted to end the referral program due to the numerous P2P lending websites like mine that started out blogging about Prosper to earn a few referral bonuses only to later post negative information about Prosper.

• Lending Club Referral Program is Currently Dead…
• Lending Club Referral Program – It’s Official!
• Prosper Marketplace Enters Quiet Period
• Lending Club Announces Lots of Changes
• Lending Club Quiet Period Announcement: A Blog RoundUp

Prosper announced that they are entering a quiet period and will not be accepting new commitments from lenders. This follows on Lending Club’s announcement yesterday that it is coming out of their quiet period. It seems Prosper is interested in having the same form of loans that can be resold which Lending Club announced yesterday.

Update: Prosper Received a Cease and Desist Order from the SEC.

Overall, both announcements are likely to be a good thing for the P2P lending marketplace. Although, with the current credit crunch and market downturn, Prosper’s timing is not ideal. Many people will be seeking alternative forms of credit and investments over the coming months.

Prosper mentions that they will work to ensure that borrowers can still receive funding so that the platform does not completely dry up during the registration process, but it looks like that funding is not secure yet.

Didn’t a Prosper manager boast around the time of the Lending Club quiet period announcement that the registration could be done without a quiet period if it was done correctly?

The note from Prosper Marketplace about the quiet period:

Prosper has started a process to register, with the appropriate securities authorities, promissory notes that may be offered and sold to lenders through our site in the future.

The registration filing is a necessary step toward making the secondary lending market available to the community. This is something many of you have been asking for, and we believe the liquidity of a secondary market will make Prosper even more vibrant.

Until we complete the registration process, we will not accept new lender registrations or allow new commitments from existing lenders. If you’re an existing lender, your current lender agreements will be unaffected; your existing loans will continue to be serviced; you’ll be able to track and monitor your loans; and you’ll be able to withdraw funds from your Prosper account.

If you’re a borrower with an existing loan, you will continue with your current borrower agreement and be unaffected by the registration process. If you’re a borrower seeking a loan, you will still be able to create a new loan listing, which we will endeavor to fulfill through alternative sources.

A successful registration can take several months, but we assure you we will do our best to move forward as quickly as possible. Until this process is complete, we’re required to be in a quiet period and will be unable to respond to press, blogger or other inquiries about Prosper or the registration filing until it becomes effective.

We apologize for any inconvenience this may cause, and want to thank you in advance for your understanding and support.

Sincerely,
Prosper

• Lending Club Quiet Period: Is a Secondary Loan Market Coming?
• Lending Club SEC Update During the Quiet Period
• Lending Club Referral Program is Currently Dead…
• Change in Lending Club Cash Burn Rate Due to Quiet Period
• Lending Club Quiet Period Announcement: A Blog RoundUp

Prosper Marketplace’s recent fee changes on P2P loans are further separating P2P lenders’ interests from those of Prosper. Prosper is loading up more fees at the front of the loan so they will be earning a far greater percentage of their income from loan origination. Lenders, on the other hand, earn all their money from loan payments being made. There has long been concern that Prosper creates and packages loans and moves on to originate the next loan while forgetting about collections. Collection (or even loan fraud) becomes someone else’s problem, but unfortunately the lenders are not allowed to attempt collection leaving them with no recourse other than complaining via the internet.

The fee changes detailed in the Prosper September newsletter:

AA loan closing fees changed to 2%

The borrower loan closing fee for AA borrowers has changed from 1% to 2%. Listings created on or after September 24, 2008 will be subject to this new closing fee…

Minimum loan closing fee changed to $75

The minimum loan closing fee for all borrowers has changed from $25 to $75. Listings created on or after September 24, 2008 will be subject to this new minimum closing fee.

This indicates that they will now be earning a greater percentage of income from originating loans rather than worrying about if the loan is ever paid back. Of course, Prosper still collects 1% of the interest paid.

Prosper Copying the Mortgage Industry
This greatly reminds me of the beginnings of the current mortgage crisis. Mortgage brokers and banks were packaging up ever riskier loans to earn their origination fee and sell the mortgages to investment banks who repackaged them and resold the risk to others. The brokers, retail banks, and the investment banks all made their fees regardless of whether the loan was ever paid by the borrower. Their interests were not at all in alignment with the investors actually holding the mortgage and the risk.

Prosper needs better alignment with lenders for the long-term
I have no issue with Prosper raising its fees, but I would much prefer the changes to align Prosper with lenders’ interests. In the long run, this would be better for Prosper because the pool of lenders will eventually dry up due to poor collections.

I can only hope that the higher origination fees will be spent on better validation of borrowers. If so, this will help lenders, but rather than asking for more up-front fees, I would rather see Prosper have more long-term skin in each loan. Maybe they should charge a 1.5 to 2% of interest over the lifetime of the loan rather than the current 1%. Lenders should immediately respond to that change by asking for a 0.5 to 1% higher interest rate on loans. However, in the long run, lenders would be better off due to Prosper increasing collections since the collection is where Prosper would also earn more of their money. This would reduce risk to lenders which should drive interest rates back down in the favor of borrowers.

Lenders are Customers Too
Prosper obviously needs to earn money to survive, but the company needs to remember that the money they are earning from origination fees is actually coming from Lenders. They have been able to survive with a high churn in lenders to date because of the cheap publicity due to the interesting business model. (A NPR story was how I opened a Prosper account.) Eventually, that free publicity will dry up and Prosper will need to start thinking of their lenders as customers. And like other businesses, they will need to reduce customer churn to keep marking costs low.

See why I quit lending with Prosper.

Did anyone else see this problem with the fee changes?

• My Mortgage Refinancing Experience: Post Mortgage Crisis Delivery Fees
• P2P Borrowers Waste Time and Money with Early Payoffs
• Advice for Potential a New Peer-to-Peer Lender
• Blenders Borrowing-to-Lend: Earn money on good credit?
• Risky Business: Using Payday Loans to Pay the Subprime Mortgage

Question: What is the difference between my Prosper Marketplace remaining cash and a wide-angle lens for my DSLR camera?

Answer: In a week, they will be one in the same so there will be no difference.

I had $250 in cash in my Prosper account waiting to be loaned out to borrowers, but today I initiated a transfer of my cash back into my checking account. I decided that the only thing guaranteed to be around three years from now – and thus my best overall investment – is a new camera lens. I’ll need to add a little more cash to buy a good lens, but it will be much more useful and enjoyable than watching P2P loans.

Why am I pulling the plug on my Prosper Investment by removing my remaining cash?

Several reasons:

1. I want to wait to see how well my Prosper loans perform over a longer period of time before investing more. (see my lender stats)
2. I still strongly believe that the stock market is a better investment over a long period especially due to the tax treatment of the investment classes.
3. I believe that Prosper lenders are under valuing risks and bidding down interest rates too low because there seems to be an almost never ending new stream of new lenders.
4. Speaking of that almost never-ending stream of lenders, the latest stats show that the loan volume is dropping the last few months. There was also a drop last summer so it may be seasonal that people have more to do in summer, but I want to be sure before tying up more money.
5. I grew bored of searching for decent loans. (I still hate the idea of the automatic bidding portfolios due to the number of borrowing idiots out there who will practically announce that they are idiots in their loan descriptions.)
6. I was frustrated with finding a perfect loan at the reasonable rate with less than a day left only to be outbid at the last second by people dropping the interest rate far below my desired rate of return considering the risk.
7. The overall economy and housing markets still show signs of weakness and people are going to pay P2P loans last.
8. I read some of the posts on creditboards.com which will scare the hell out of any sane lender.
9. Executives are bailing ship, are certainly no longer lending, and one is even late on paying his loan.
10. I noticed how few of the early Prosper loan investors are still actively lending.
11. I read several posts in the lobby such as why I won’t bid anymore.

Do I consider my P2P lending experience a failure?

So far, not at all.

1. I have learned a great deal about credit.
2. I have learned that there are lots of borrowers and lenders with amazing fantasies about reality.
3. I have confirmed my belief that you should wade into a new investment class. (See muleshoes and other Prosper cliff divers as a cautionary tale.)
4. Additionally, so far my portfolio of loans is doing fine both at Prosper and Lending Club.

Maybe I’ll pick up lending with Prosper again in the future, but it won’t be for at least several months until I have the chance to let some more dust settle on my portfolio and the company.

Technorati Tags: P2P Lending, Prosper, Prosper Marketplace, investing, dslr

• Lending Club Quiet Period Burn Rate Update
• Change in Lending Club Cash Burn Rate Due to Quiet Period
• Prosper and Lending Club Advice for New Lenders
• P2P Lending: Everyone is Watching
• Advice for Potential a New Peer-to-Peer Lender

I received a Prosper Marketplace update via email. There were several interesting items, but it the last item stood out:

Legal Agreement Revisions
A minor change has been made to the following legal agreements, to clarify that selling or buying a recommendation or endorsement is not allowed. Please refer to the links below to view these changes.
Borrower Registration Agreement [PDF]
Lender Registration Agreement [PDF]
Group Leader Registration Agreement [PDF]

This portion of the update seems to directly target Lazy Man and Money’s post offering to sell an endorsement for p2p loans on Prosper. Although Lazy Man says that the post was satire and intended to point out flaws in the system, it caused a stir at prospers.org where the discussion of Lazy Man’s post reached 21 pages.

Knowing endorsements are valuable to judging loans, I am glad to see that Prosper made the changes to its TOS. However, enforcing this rule will be nearly impossible as Lazy Man pointed out with an example:

Quick scenario. I want to take out a loan. I think an endorsement would help. I call up my friend Chuck, tell him to meet me for beers. I tell him that I’m taking out a loan, and I’d appreciate his good word on my behalf. He says, he’d love to, but doesn’t have the $50 right now. I give him $50 and pick up the check for the beers. Chuck signs up and then lends me the $50 that I gave him. Did Chuck break the TOS? Did he accept a kickback of beers?

I am starting feel that P2P loans are like trading stocks. As soon as enough people are aware of a strategy for buying or selling, the strategy becomes useless. And so we may have seen the end of the value of endorsements in predicting defaults.

• Prosper Marketplace Enters Quiet Period
• Lending Money via Prosper to Increase Returns
• Carnival of Peer-to-Peer Lending #10
• Lending Club Announces Lots of Changes
• Credit Score Advice from a Mortgage Lender: Mortgage Refinancing Experience

Welcome to the 10th peer-to-peer lending blog carnival. There were some good submissions of a new market niche, a bonus program, two guides for borrowers, and a few P2P lending summary articles. I hope that you enjoy the articles.

• Wiseclerk posted about Zopa UK planning a Young Market to target borrowers who do not have a long credit history. This sounds like a needed market niche.
• Rate Ladder presents 8 Listing Strategies for the Best Prosper Loan Rates. I must agree with his advice to borrowers. See #7 — I always search first for loans that have endorsements from friends who have put money on the line. If friends have put up some of the money, I am much more willing to put down my money.

• The blog Earthlier Happy is the Rose Distilled submitted A Borrower’s Guide to Using Prosper. The guide starts by explaining the process and then moves on to some specific tips for borrowers. The list is short but good advice. For example, I have personally passed on several loans due to spelling errors in the loan description.

• Tom blogged about the details of Fynanz offering a huge bonus to lenders at Prosper Lending Review. Tom also mentions the referral program which is similar to Prosper’s.

• Rich Leverage summarized peer-to-peer lending in the post Making Extra Money With P2P Lending.

• DJMike also summarized P2P lending and borrowing at Prosper.com. You’ll want to see the link to his stats — $2,359 in loans with the first one being over 400 days ago and so far no defaults!

Thanks to everyone who participated in the 10th P2P Lending Carnival.

The previous carnival, number nine, was hosted at Rate Ladder and the post that started it all was at Lazy Man and Money.

If you want to participate in p2p lending carnival number 11, go to the submission form. Hosts are also needed, please contact Lazy Man Money to host.

• Second Peer to Peer Lending Carnival
• Submit for the next P2P Lending Carnival
• First Peer-to-Peer Lending Carnival
• P2P Lending Carnival #4
• Advice for Potential a New Peer-to-Peer Lender

A Penny Saved answered my questions about his Prosper Marketplace loan.

My major concerns were about home ownership terms and conditions and how quickly the loan would be paid back.

The question:

It says you are a home owner. Can you give the details of your loan (rate, term etc) and your current estimated equity situation in the home? Secondly, how soon do you plan to pay back the loan considering it is only for credit building?

The answer:

“30 year fixed, 5.25%, 30k equity give or take 1 year most likely as far as pay back time (Jun-19-2008)”

I am thinking more and more about bidding on this one despite the poor lender guidance rate of return.

• Loan Money on Prosper to “The Penny Saved”?
• What NOT to say in your Personal Loan Application
• Review My First Prosper Loans and Win a Book!
• Kiva.org Goes Wanting for Borrowers! $1 Million Loaned this week!
• Donald Trump Saves Ed Mcmahon’s Mansion

Rate Ladder is promoting a P2P loan from the blogger “The Penny Saved.”

See the loan request.

Honestly, the interest rate of 16% is rather poor considering that the Prosper lending guidance is a negative 18% due to the C credit rating.

Normally, I won’t even consider anything with a lending guidance that takes the estimated rate of return below 6%. After all, I am in P2P lending to earn higher returns. However, it is occasionally the lower credit score loans that can offer a higher return if you have good reason to believe that the person will pay back the loan. Everyone using only standing bid orders will miss out on a loan like this, so it may offer an outsize return.

I decided to check out some posts at the website to see how this blogger thinks:

• Positive: A good understanding of supply and demand is a good thing. Penny understands energy market economics which is a good thing. Raving about oil companies charging high prices would be a bad thing.
• Slightly negative: How Penny can add one to his scoring system make 1 go to 2 and 0 go to 1.5 at the same time is a complete mystery. See the scoring jump from item one to item two and then not move between item two and three. It is just so wrong that I must be missing the scoring explanation.
  • Item #1: “Score: Not Hypocrite view 1, Hypocrite view 0″
  • Item #2: “Score: Not Hypocrite view 2, Hypocrite view 1 .5″
  • Item #3: “Score: Not Hypocrite view 2, Hypocrite view 1.5 “

  I even had to double check what I posted is correct. Yes, that is right and no the scoring system does not make any sense.

• Positive: Researching purchases in great detail is a good thing. It likely means that he is not taking this loan lightly.
• Neutral: Reasonably good investment tips although I am not sure what “Bear Stears” are. I think a Bear Steer might be a bear sans gonads, but I am not certain. I have been know to make typos too, so I won’t hold this one against you.

I am not quite certain about the loan request yet, so I decided to request the answer to a few questions before putting my money on the line. I sent a question asking Penny for details on the mortgage loan considering that he is a home owner and we are in the midst of a nasty mortgage/credit crisis. Secondly, I asked about how soon he plans to pay off the loan since the long is listed in the description for improving the borrower’s credit score. If you have been reading Personal Loan Portfolio for a while, you know that I hate early P2P loan payoffs.

I’ll let you know later the answer to my questions and if I bid or not. See the loan request.

…..

Bored of P2P Lending?

• Go find a little inspiration by watching Oprah’s Stanford Graduation Speech. The video helped out my wife with her graduate class.
• I am curious to see how this fresh google search functionality is going to impact search results. Long tail search terms might have just become even more accessible to reach traffic.

• The Penny Saved Answers My Prosper Loan Questions
• Review of Lending Club Update: New Portfolio View, FICO Score, & More
• Examining the Lending Club Risk Rating Score
• Lending Club Announces Lots of Changes
• What NOT to say in your Personal Loan Application

P2P Lending has been in the mainstream media news a great deal lately. I decided to post a roundup of many of the recent news articles on Prosper.com, Lending Club, Zopa, GlobeFunder, and Virgin Money. It is unfortunate that Lending Club entered a quiet period just as they were gaining tremendous growth in loan volume.

CNBC February 5th, 2008: From Zero to Millions: Financing Your New Business:

Online Family Lending Use a lending network designed for inter-family loans, such as CircleLending.com. Tools at that site will help you and your relative come to terms on the length of the loan and the interest rate, and calculate the monthly payment amount. For $99, CircleLending issues a legally binding promissory note and a repayment schedule. For $9 per payment, the company will set up automatic repayments using electronic funds transfer.

Peer-to-peer Lending: Several websites now make it much easier to find an investor who will back your business. Check out prosper.com, lendingclub.com and zopa.com.

Lending Club’s founder financed his first company with personal loans and high-interest credit cards. He eventually sold the business to Oracle. That experience inspired his new company. Lending Club, which launched on Facebook in May 2007 and on its own site last September, uses technology to match borrowers to lenders willing to offer unsecured loans of $500 to $25,000 with three-year, fully amortizing terms.

The author, Laura Rowley, must have used some old notes because CircleLending.com was long ago purchased by Richard Branson and converted into Virgin Money.

Forbes February 11, 2008: Banking 2.0: New Capital Connections For Entrepreneurs:

Credit-market carnage makes it all the more important for small businesses to understand the full range of potential sources for capital. A growing alternative to traditional sources: person-to-person lending Web sites.

These sites, with names like Prosper.com, Zopa, Lending Club and GlobeFunder, use social networking tools and other software to simplify the borrowing and lending of capital between strangers and even family and friends. For entrepreneurs, these sites offer an alternative and needed source of capital. For lenders, the fast-growing sites offer competitive rates of return and the opportunity to easily participate in the cornerstone activity of capitalism.

I wonder if Maureen Farrell noticed that Globefunder’s lenders are the hedge fund set which I hardly call peer-to-peer lending.

Prosper.com employs an eBay or auction-style model and lets potential lenders both determine the interest rate and who gets funded in a several-week bidding process. Zopa.com used the auction model in the United Kingdom, but in the United States where it launched in December, it works directly with credit unions and lets these unions set the interest rate and decide whether to fund. Borrowers can lower their interest rate by asking lenders to purchase certificates of deposit against their loan for rates of 4.25% or below, and credit unions guarantee the CDs. Lending Club also sets the borrowers’ interest rate based on FICO scores and determines who gets funded. Once a rate is set, Lending Club matches lenders and borrowers by personal interests through their Web site or via Facebook. Borrowers share their stories, and then have a time window to see if enough lenders are willing to fund the loan.

GlobeFunder and Virgin Money USA don’t use social networking mechanisms. GlobeFunder allows borrowers to appeal for funding, determines an interest rate range, and then working with its partners–institutional investors and hedge funds–finds out whether there’s enough interest in the loan to fund it. Richard Branson’s new venture, Virgin Money USA, which was formerly Circle Lending, facilitates the transfer of money between friends and family. Friends and family members negotiate rates, but Virgin Money sets up payment schedules and legal documents and charges fees accordingly.

So Maureen Farrell did notice that GlobeFunder is for hedge-fund lenders. She probably wrote up one of the most concise descriptions of P2P lending sites I have seen in the above two paragraphs.

Right now, default rates at Prosper and Lending Club are relatively low, but that could change with the downturn in the economy. Prosper’s CEO Chris Larsen says the rate of default is now around 4.7%. At Lending Club, borrowers with poor credit are excluded and therefore interest rates are lower. The site has only been in operation since mid 2007, but as of now, Lending Club claims to have a 0% default rate and says that only a small fraction of borrowers–0.012% –have made late payments (30 days or more).

Maureen, you forgot to ask Chris how many loans are late. It can take months of zero payments for a late loan to be considered in default on Prosper.com. And with Lending Club you should have asked the average age of the loans. I mentioned this problem with Lending Club’s statistics in this post on loan rejections. LendingClub’s loans have not aged enough yet for people to actually rely on that late payment statistic for a basket of three-year loans.

What is the potential market for these loans? Analysts predict a huge surge in demand. Javelin Strategy & Research, a Pleasanton, Calif.-based financial services consulting firm, estimates that demand in the person-to-person lending market could hit $159 billion by 2012.

Forbes also put together a concise guide to the peer to peer lending sites.

FOX Business February 11, 2008: Bypassing the Bank:

Peter Barnes talks to Renaud Laplanche, Lending Club Founder & CEO, about LendingClub.com, a social networking website for peer-to-peer lending.

Time February 28, 2008: Hey, Buddy, Can You Spare $10,000?:

WHO DOES IT [p2p Lending]: Bernadette Lui of San Jose, Calif., has $3,125 spread among 13 three-year loans. She earns 14.6% and is considering reinvesting her returns with new borrowers. “They’re pretty small dollar amounts on each loan,” Lui says. “I figured it would be acceptable if someone defaulted.”

Bernadette Lui should have spread her money across more loans. In fact, should could have picked 62 loans rather than just 13. Considering that she on average loaned out $240 to each of 13 people, just one default will significantly impact her ROI.

Washington Times March 2nd 2008: Wanna Talk Money?. The article actually spends more time on sites such as Wesabe and Geezeo, but does include peer to peer lending:

Others have opted for niche sites. Some, such as Covestor.com, allow investors to see how their portfolios compare with others. Social lending sites, such as Lending Club and Prosper, bypass banks to match lenders with borrowers. Buxfer.com and BillMonk.com help roommates, friends and relatives keep logs of shared expenses. NetworthIQ helps people figure out in a public forum what they are worth in dollars…

Some people, such as Phyllis Wright, 48, are just looking for a way out of debt. The customer-services representative who lives in Clinton borrowed $9,000 from the Lending Club to pay off some of her credit cards. “I knew that I had so much debt that I didn’t even bother to try to get a loan from the bank because I knew I would have been turned down,” she said.

She got a 12 percent interest rate, much lower than the rate she had on her credit cards. She had been paying her credit cards about $450 a month. Now she pays Lending Club $301. She still has credit card debt, but “that was a big help,” she said.

Since September, when the Lending Club expanded from a Facebook group to a public Web site, it has issued about $9.5 million in loans, said Renaud Laplanche, founder and chief executive. Last month alone, it doled out about $3 million. Laplanche attributed the rapid growth to the credit crunch that has squeezed the mortgage market and seeped into other forms of lending.

Laplanche said borrowers must have a minimum 640 credit score, no more than a 30 percent debt-to-income ratio and no delinquencies. To minimize risk, lenders make small loans to each person. That way, if one recipient defaults, lenders are still likely to get a return from their investments in other people’s loans. So far, Laplanche said, fewer than 1 percent of all loans have been in default.

“People tend to not default on other people in a community if they feel connected,” he said.

I think Prosper may have already proven that last statement incorrect. I hardly ever lend on Lending Club or Prosper based upon some social or geographic connection, but when I do, I always let the borrower know — just in case Laplanche is correct.

ABC News April 5, 2008: Social Lending Networks, New Alternative to Banks:

There is a video of Murphy who received a 25,000 loan from Lending Club at 12% to fund his popcorn business. The lender Bernadette Lui (mentioned in the time article) is in the video and she mentions that two of her loans are already late. So her return is not going to be so attractive. The video mentions a different estimated ROI for Bernadette — over 15% — than the return mentioned in the Time article. So I was right… Bernadette should have spread her risk across more loans.

No single lender carries a full loan, so the risk is spread out among several people. The borrowers get a fixed rate, based on their credit score, which is usually a better rate than the bank would give and much better than they would get using a credit card.

Bernadette Liu has loaned out a total of $3,125, spread over 13 different borrowers. She’s earning almost 15 percent on her investment. She says that’s a lot better than the stock market or even bank CDs. But she said she is worried about two of her loans on which the borrowers are late making payments.

“It’s a newer venture, so you never know,” she said. “But I think my funds are diversified enough.”

When she says her funds are diversified enough, I wonder if she means just her Lending Club loans or her entire investment portfolio. If she is talking about her Lending Club loans alone, I think she is wrong. She could have invested her three grand across 62 loans at $25 each or 31 loans at $50. If you want to try P2P lending, please invest across more loans. See the articles at Prosper Lending Review and Rate Ladder on the subject of P2P loan diversification.

US NEWS April 8th 2008: Surviving the Crunch:

Ryan Feig, 35, founder of Zensah Performance Apparel, a Miami innovator of seamless compression sportswear. Projected 2008 sales: seven figures
“My experiences with banks have been extremely difficult—even though we sell to teams in the NBA, are a 3-year-old company, have great technology and have some of the greatest athletes. Lending Club [an online social lending network] has been a savior. It’s true capitalism for borrowing. Tomorrow, even if there is no more credit crunch, I think people are going to have better access to capital through people-to-people lending than, let’s say, a bank.”

CBS March 21, 2008: In Credit Crunch, Lending To Each Other:

At a time when credit is hard to come by, more Americans are turning to a new source for money: each other. It’s called person-to-person lending, and it’s expected to rise 800 percent in the next couple of years.

…He was paying 31 percent on his credit card. And now he’s paying …

“Ten percent,” Brown said.

…Those with some money like Clemens, and those who need some like Brown, are now able to get together on Web sites like LendingClub.com and Prosper.com.

Since CBS News first reported on Prosper.com a year ago the credit crisis has made person-to-person lending take off, nearly tripling Prosper’s customers to 630,000.

This article also includes a 2:35 minute video (after the advertisement):

Technorati Tags: P2P lending, credit, Prosper, Lending Club, GlobeFunder, Zopa, Virgin Money, news, roundup, borrowing money

• Glenn Chapman on P2P lending at Prosper, Virgin, Kiva and Zopa
• Rex Dixon: Social Media Director of Lending Club Blog
• Prosper.com Correlations: Late Loans and Interest Rate Caps
• Pennsylvania loans or what were early Prosper lenders thinking?
• One Year Review: My Prosper Lending Experience

So far all my Prosper.com and Lending Club loans are current. I would be annoyed with loan defaults, but currently the number of borrowers who pay the loan in a month or less is starting to bother me. Why does a borrower bother to take out a loan for one month?

Here are a few instances from Lending Club of early paybacks that wasted my time and tied up my money while trying to find and fund loans:

Loan # 172924
Grate/ Rate: E : 14.82%
My Monthly Expected payment: $0.85
Amount Paid Back: $25.84
ONE PAYMENT RECEIVED before being fully paid back. This person wasted the origination fee and a check against their credit score and then paid off the loan in one month.

Loan # 188937
Grate/ Rate: A : 8.32%
My Monthly Expected payment: $0.78
Amount Paid Back: $25.33
ONE HALF INTEREST PAYMENT RECEIVED before the loan was fully paid back.

Prosper.com has the same prepayment issue. One of my loans has already been fully paid. It was fully paid in less than one month. Of course this loan was a very small so it was at greater risk of early payment.

From the Lending Club FAQ:

What if one of my borrowers prepays a loan?

Borrowers can prepay their loans at any time with no penalty. If a borrower prepays a loan, your money will be transferred to your Lending Club account where you can reallocate it to new loans or withdraw it to your bank account.

From the Prosper.com Borrowing FAQ:

What happens if a borrower repays their loan early?

Borrowers can make extra loan payments or repay the loan entirely at any time without penalty.

• Lending money for only one month wastes lenders’ time and causes money to be idle longer negatively impacting return.
• Borrowing money to only pay it back in one month wastes a borrower’s time and potentially costs money because of the origination fee. Additionally borrower’s credit score could move lower due to an unnecessary hard credit check.

Borrowers, please do not borrow a P2P loan from Prosper.com or Lending Club only to pay it back in one month. It is a waste of your time and possibly money and it certainly wastes lenders’ time and money.

Lending Club and Prosper.com need to consider changing the terms of service to add an early payback penalty if a loan is paid back in less than six months.

Update:
I am not referring to people paying off a loan after six months or a year. These borrowers mentioned all paid off their loans in one month or less! There are legitimate reasons to pay off a loan after several months or to pay it down as quickly as possible — I understand that. Paying it off in 15 days means that they really did not need the loan in the first place.

Technorati Tags: Prosper.com, Lending Club, prepayment penalty, p2p lending, loans, borrowing, money

• Zopa Borrowers Receiving Negative Interest Rates on Loans
• Another Late Lending Club P2P Loan
• My first late loan at Lending Club
• Change in Lending Club Cash Burn Rate Due to Quiet Period
• Prosper and Lending Club Google Advertisements