Lending Club Returns

The first question most investors ask when they first hear about P2P lending is "How does peer to peer lending work?" The second question is "How much can I earn from investing in peer to peer loans?" In this article we will try to answer that all important question by looking at Lending Club investing returns and showing you how to beat the averages. Before we look at historical return information, there are four key points to consider when determining if the future will be similar to the past.

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1) As you may know, Lending Club issues loans for 36 or 60 months. The majority of loan defaults occur within 12 to 24 months of the date the loan was issued. We cannot determine the actual rate of return for a given period until all loans have been repaid or charged off by the issuer. In addition, there is a small amount that may be returned to the investor based on collections efforts for defaulted loans. The bottom line is that historical Lending Club returns do not reflect completion of all loans unless you are looking at a period beginning at least 5 years ago. 

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2) In 2016 Lending Club changed their underwriting standards. Underwriting refers to the methods used by lenders to determine the likelihood that a borrower will repay a loan. The riskier the loan, the higher the interest rate. Of course, credit score is a big factor, but there are other criteria used in this evaluation process. The changes to underwriting standards in 2016 should mean that each grade of loan will perform better since the company claims to have tightened standards. However, the impact of these changes will not be known until at least of couple of years after they went into effect. 

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3) In July of 2018 Lending Club increased interest rates charged to borrowers. This change was based on interest rate increases made by the Federal Reserve Bank. These increases by the Fed are being reflected in consumer and corporate lending throughout the economy. The increase imposed by Lending Club should increase investor returns in the long run. 

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4) There is always one big unknown when trying to estimate future returns for any investment, and that is the economy. A recession will likely have a negative effect on peer to peer loan returns. Although it is impossible to guess when the next recession will occur, it is certain that one will happen. The effect on investment returns will depend on the length and severity of the recession.

 

Lending Club Investing Returns

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Lending Club publishes a lot of information about returns on loans they have issued. This information goes as far back as 2008. As noted, recent loans are not yet paid off so returns on those loans are probably higher than older loans since some of them will likely default prior to full repayment. Lending Club provides information based on average age of a portfolio. This allows us to see how the timing of defaults effect the portfolio's performance. The chart below shows selected information provided by Lending Club. 

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What does this chart tell us? A lot! Here are some of our conclusions after analyzing these returns:

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1) More risk does not equal higher Lending Club returns. Lending Club no longer issues grade F and G loans so we will disregard loans with an interest rate of 18% and up. If you look at the median return for loans portfolios aged 24 to 30 months, you see that the best return is 4.7% for loans with interest rates of 0% to 9%. The worst return is for loans with rates of 15% to 18% at 2.2%.

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2) The data validates the assumption that defaults mostly occur in the 12 to 24 month time frame. We can infer this from the data because returns start dropping in the 12 to 18 month range and bottom out in the 18 to 24 month range. 

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3) Even the best performing portfolios are not hitting home runs. You need to be above the 95th percentile. Lending Club returns for portfolios in the 90th percentile (or the top 10% of investors) are in the 5% to 6% range for every interest rate group. This means that being in the top 10% of portfolios is still not going to give you those great returns that you are looking for. You need to be in the top 5%.

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4) Investment strategy matters. The difference between 10th percentile and 90th percentile is large, especially for high interest rate loan portfolios. 

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How You Can Beat the Averages

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1) Do not use the automated investing feature offered by Lending Club. You may have seen this point in our other articles and it is one that we make repeatedly. Peer to peer loan investors need to understand that they are competing with professionals. The best investments will be filled quickly, leaving the poorest loans available when the automated investing occurs. 

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2) Determine which borrower criteria matter and select loans accordingly. In order to compete with the professionals you need to determine which loans are most likely to be paid in full. Lending Club provides an enormous amount of data for each loan issued. 

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3) Only invest in grade C, D and E loans if you have a proven strategy. The statistics clearly show that the lower grades provide significantly more risk without necessarily increasing return. To be successful investing in these loans you need to know what you are doing. If you don't have a proven Lending Club strategy or professional help, then you are much better off sticking with grades A and B.

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Do You Want to See Proof?

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Cody Smith, founder of PeerLoanAdvisor.com, is happy to share information from his personal accounts. This chart is provided by Lending Club and is personalized for each investor. The large blue dot shows Cody's annualized rate of return. As you can see from the chart below, Cody's return on this account is among the highest of all Lending Club investors. In fact, his annualized return is 16.18% on a portfolio with average loan age of 6 months.