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Ultimately, their sustainability will depend on the cost at which they can raise funds. Banks can raise funds cheaply through deposits (and many other sources l

Ultimately, their sustainability will depend on the cost at which they can raise funds. Banks can raise funds cheaply through deposits (and many other sources like wholesale funding which may be at a higher cost), which they lend out at slightly higher interest rates than they pay their depositors. Given that LC is not a depository institution, the only way I see them providing lower interest rates is they have figured out a cheaper source of funding - or burning investor money to do this which is not sustainable and the big banks will defeat them eventually. The moment you start taking deposits, you will be regulated like any other institution and they need to compete with other banks on the same terms. Another aspect is that banks are in the business of risk management, so it is probable that LC has figured out a better way to manage their risks than existing institutions - again, this is something where existing institutions have enough resources to catch up easily.

prostoalex 12y ago
They raise money from institutional and private buyers https://www.lendingclub.com/public/steady-returns.action https://www.lendingclub.com/public/steady-returns.action I'm a private buyer on Lending Club, their automated investing feature breaks up your deposit into chunks of $25, so a $1,000 gets allocated into 40 loans. Expected returns are listed on that page.
7Figures2Commas 12y ago
> Given that LC is not a depository institution, the only way I see them providing lower interest rates is they have figured out a cheaper source of funding... Yes, the source of funding is private investors, both retail and institutional, many of whom are chasing yield. When the market shifts and investors are forced to reprice risk, lending $10,000 at 13% to someone who has a credit score of 660-665, 55% revolving credit utilization and a gross income of under $2,000/month might be a lot less appealing.
- radmuzom 12y ago
  Ok so they are operating at lowest end of the prime range (at least, in your example) - assuming > 660 is prime, 620-660 Alt-A and below 620 as subprime. How do I reconcile the rate quoted by you with the parent comment that I replied to? (13% is comparable to a standard bank and does not appear much cheaper)
  - nether 12y ago
    https://www.lendingclub.com/public/how-we-set-interest-rates.action https://www.lendingclub.com/public/how-we-set-interest-rates...
  - 7Figures2Commas 12y ago
    You're missing the point, which is that in the search for yield, investors are mispricing risk. I would venture a guess that the vast majority of people who own a note tied to the loan of the aforementioned borrower either couldn't tell you what a similar borrower would have paid for the same loan in, say, 2005, or they don't care what a similar borrower would have paid for the same loan historically. They care more about the current interest rate in relation to other yield-producing instruments than they do about the actual risk they're buying and how that risk has historically been priced. One additional thing to note: there are tons of investors (retail and institutional) snapping up junk in this market, but there are also many savvy people in the debt markets who are playing it cool because they know that you make money by pricing risk appropriately, not by buying the instrument with the most appealing yield.
    - radmuzom 12y ago
      I agree with your point on mispricing risk - I build credit risk models for a living, though not for US banks and have limited understanding of the US market. On a broader note, even the sub-prime business was highly profitable and attractive to investors till the GFC. Only time will tell if these companies have a sustainable business model.
nether 12y ago
> Given that LC is not a depository institution, the only way I see them providing lower interest rates is they have figured out a cheaper source of funding - or burning investor money to do this which is not sustainable and the big banks will defeat them eventually. LC is peer to peer lending. I have $47k invested in LC notes. They save money by having fewer brick & mortar offices and mainly relying on credit score to assess borrowers.
- foobarqux 12y ago
  There are several online banks with no brick-and-mortar presence.
- conistonwater 12y ago
  If they mainly rely on credit scores, how will they remain competitive with lenders that have more information about the borrower, or has the resources to develop a business relationship with the borrower? Everybody else has access to credit scores too, you know.
  - rtpg 12y ago
    it might be that credit scores are cheap enough (or rather, finding more information is expensive enough) that they're the local maximum in terms of possible profit from the transaction.
- radmuzom 12y ago
  I assume you have a high risk appetite. If there is a downturn situation and lot of loans given out by LC default, then they may suffer heavy losses and go out of business. Given that they are not regulated, there is no guarantee on deposits by the Fed so you won't get any money back.
dragonwriter 12y ago
> Banks can raise funds cheaply through deposits Well, for now -- if the higher yields of Prosper/LC-style quasi-P2P loan investments draw investors out of savings accounts into that model, then there'll be a pretty big exodus out of the kind of stable depository accounts that banks most rely on.
- radmuzom 12y ago
  But then these lending firms will ultimately be put under the same regulation as banks - requiring them to hold capital against unexpected losses, comply with consumer protection laws, etc - so they will have to compete against depository institutions on an equal footing.
  - dragonwriter 12y ago
    > But then these lending firms will ultimately be put under the same regulation as banks Why would they be? The regulations you refer to aren't about banks-as-lenders, they are about banks-as-depository-institutions which provide the service of absorbing default risk between capital providers (depositors) and borrowers. If given an alternative which provides the capital providers with a service which handles management of the details of lending without absorbing default risk (and without charging a premium for absorbing default risk) becomes popular as an alternative to depository accounts for long-term savings (rather than keeping liquidity as one would in a checking account), why would those alternatives be subject to regulations whose only purpose is to make sure that banks actually do perform the function of absorbing default risk for which they are charging depository customers? Those regulations only make sense in the context of a depository institution.
dragonwriter 12y ago
> Given that LC is not a depository institution, the only way I see them providing lower interest rates is they have figured out a cheaper source of funding They eliminate the rather substantial regulatory compliance costs of running a depository institution, because they aren't a depository institution. This means they can use the reduced costs to either (1) increase returns to the providers of lending capital (investors in LC Notes), (2) decrease interest rates to borrowers, (3) increase returns to investors in LC-as-a-company rather than its Notes, (4) do some combination of the prior three.

prostoalex 12y ago

They raise money from institutional and private buyers https://www.lendingclub.com/public/steady-returns.action https://www.lendingclub.com/public/steady-returns.action I'm a private buyer on Lending Club, their automated investing feature breaks up your deposit into chunks of $25, so a $1,000 gets allocated into 40 loans. Expected returns are listed on that page.

7Figures2Commas 12y ago

> Given that LC is not a depository institution, the only way I see them providing lower interest rates is they have figured out a cheaper source of funding... Yes, the source of funding is private investors, both retail and institutional, many of whom are chasing yield. When the market shifts and investors are forced to reprice risk, lending $10,000 at 13% to someone who has a credit score of 660-665, 55% revolving credit utilization and a gross income of under $2,000/month might be a lot less appealing.

radmuzom 12y ago
Ok so they are operating at lowest end of the prime range (at least, in your example) - assuming > 660 is prime, 620-660 Alt-A and below 620 as subprime. How do I reconcile the rate quoted by you with the parent comment that I replied to? (13% is comparable to a standard bank and does not appear much cheaper)
- nether 12y ago
  https://www.lendingclub.com/public/how-we-set-interest-rates.action https://www.lendingclub.com/public/how-we-set-interest-rates...
- 7Figures2Commas 12y ago
  You're missing the point, which is that in the search for yield, investors are mispricing risk. I would venture a guess that the vast majority of people who own a note tied to the loan of the aforementioned borrower either couldn't tell you what a similar borrower would have paid for the same loan in, say, 2005, or they don't care what a similar borrower would have paid for the same loan historically. They care more about the current interest rate in relation to other yield-producing instruments than they do about the actual risk they're buying and how that risk has historically been priced. One additional thing to note: there are tons of investors (retail and institutional) snapping up junk in this market, but there are also many savvy people in the debt markets who are playing it cool because they know that you make money by pricing risk appropriately, not by buying the instrument with the most appealing yield.
  - radmuzom 12y ago
    I agree with your point on mispricing risk - I build credit risk models for a living, though not for US banks and have limited understanding of the US market. On a broader note, even the sub-prime business was highly profitable and attractive to investors till the GFC. Only time will tell if these companies have a sustainable business model.

nether 12y ago

> Given that LC is not a depository institution, the only way I see them providing lower interest rates is they have figured out a cheaper source of funding - or burning investor money to do this which is not sustainable and the big banks will defeat them eventually. LC is peer to peer lending. I have $47k invested in LC notes. They save money by having fewer brick & mortar offices and mainly relying on credit score to assess borrowers.

foobarqux 12y ago
There are several online banks with no brick-and-mortar presence.
conistonwater 12y ago
If they mainly rely on credit scores, how will they remain competitive with lenders that have more information about the borrower, or has the resources to develop a business relationship with the borrower? Everybody else has access to credit scores too, you know.
- rtpg 12y ago
  it might be that credit scores are cheap enough (or rather, finding more information is expensive enough) that they're the local maximum in terms of possible profit from the transaction.
radmuzom 12y ago
I assume you have a high risk appetite. If there is a downturn situation and lot of loans given out by LC default, then they may suffer heavy losses and go out of business. Given that they are not regulated, there is no guarantee on deposits by the Fed so you won't get any money back.

dragonwriter 12y ago

> Banks can raise funds cheaply through deposits Well, for now -- if the higher yields of Prosper/LC-style quasi-P2P loan investments draw investors out of savings accounts into that model, then there'll be a pretty big exodus out of the kind of stable depository accounts that banks most rely on.

radmuzom 12y ago
But then these lending firms will ultimately be put under the same regulation as banks - requiring them to hold capital against unexpected losses, comply with consumer protection laws, etc - so they will have to compete against depository institutions on an equal footing.
- dragonwriter 12y ago
  > But then these lending firms will ultimately be put under the same regulation as banks Why would they be? The regulations you refer to aren't about banks-as-lenders, they are about banks-as-depository-institutions which provide the service of absorbing default risk between capital providers (depositors) and borrowers. If given an alternative which provides the capital providers with a service which handles management of the details of lending without absorbing default risk (and without charging a premium for absorbing default risk) becomes popular as an alternative to depository accounts for long-term savings (rather than keeping liquidity as one would in a checking account), why would those alternatives be subject to regulations whose only purpose is to make sure that banks actually do perform the function of absorbing default risk for which they are charging depository customers? Those regulations only make sense in the context of a depository institution.

dragonwriter 12y ago

> Given that LC is not a depository institution, the only way I see them providing lower interest rates is they have figured out a cheaper source of funding They eliminate the rather substantial regulatory compliance costs of running a depository institution, because they aren't a depository institution. This means they can use the reduced costs to either (1) increase returns to the providers of lending capital (investors in LC Notes), (2) decrease interest rates to borrowers, (3) increase returns to investors in LC-as-a-company rather than its Notes, (4) do some combination of the prior three.