As a lender, the accelerating adoption of the “social banking” model is important to you, it means higher volumes of people looking to borrow money.

Not all of those people entering the market will be low-risk investments, in fact many of them will be the opposite.  However, as the total size of the population grows so will the number of borrowers in each credit category.

The more people there are looking to borrow money, the more options you’ll have as a lender. The firm Gartner Research made some promising projections recently:

“… social banking platforms will have captured 10 per cent of the available worldwide market for retail lending and financial planning by 2010. And the analyst says venture capital investment in financial social networks such as Zopa, Prosper and Lending Club illustrate increasing consumer interest”

If these percentages hold up the number of borrowers will multiply, providing new opportunities for lenders.  As these opportunities become apparent, it’s likely that additional lenders will also come into the marketplace to meet the loan demand so fine tune your lending skills now.

Source: Knowledge.Computing.co.uk: Social networking to test traditional banking model

Ben Rogers of the Filene Research Institute looks ahead to the future of peer lending in his interview with Lending Club CEO Renaud Laplanche and sees more than just basic personal loans.

This doesn’t come as a surprise to many people.  Peer lending started out in the most basic format, one person lending money to another with no collateral supporting the loan. As the industry starts to figure out the model, they’re looking to move into other types of loans.

Collateralized loans are an interesting development since they will provide some form of property to back up the loan.  Theoretically, this should help to reduce the risk of lending since there is collateral to go after in the event of a loan default.

According to the article, this type of peer lending is on the way and we shouldn’t expect it to be limited to just Lending Club.

Look for Lending Club to move to collateralized loans within 12- to 18-months, Laplanche says. And if Lending Club is first, look for the other players to quickly follow suit.

It’s interesting and exciting to watch as the peer lending industy adapts and expands to offer more financial options for consumers.

Source: Filine CU Tomorrow: Lending Club taking over the loan world

This is the question that prompted Sir Richard Branson to create the peer lending company, Virgin Money. Branson had a personal run-in with a bank when trying to find startup money when he was a young entrepreneur.

“I wanted to build a recording studio and I went to the bank and they wouldn’t lend me the money. So I rang up my aunt and said is there any chance of you doing a second mortgage? She said yes and as a result of that loan the Virgin empire was created.”

Branson has a history of starting up new business models across a multitude of industries so it’s no surprise that he jumped into the peer lending arena as the market really starts to take off.  He’s looking forward to helping out new business owners who would have put thousands of dollars on their credit cards at high interest rates to fund their new businesses.  Instead, Branson hopes they’ll be able to borrow money from family members at a much lower rate and keep the money in the family.

In addition to the denial of credit for his initial business loan, he’s had other bad experiences with banks in the past that have left him wanting an alternative.  The day he launched Virgin Airlines he returned to his office to find his banker threatening to foreclose on the whole company after Branson slightly exceeded his credit limit.  Obviously that didn’t happen since Virgin is still up and flying today but it left an impression on Branson.

In 2007 he purchased a peer lending company named Circle Lending with the goal of empowering lending among family members.  His hope is that the new Virgin Money US will provide people funding alternatives to high interest rates and pushy banks.  If you’re paying high interest rates on business capital or any kind of loan and a family member might consider helping you out, heed the new company’s slogan and “Go Fund Yourself”.

Source: Money.cnn.com: Richard Branson launches Virgin Mobile & recalls his start as an Entrepreneur

The competitive nature of the bidding process gets some lenders to bid down interest rates on Prosper to the point where the loan isn’t worth the risk of reward.

In the heat of the moment lenders are more likely to make an offer to fund a loan so they can get a piece of the listing they’ve been watching & bidding on.  The problem is that the criteria that seemed profitable when the bidding began no longer provides an acceptable risk/reward trade off at the lower rates.

In response to a recent MarketWatch article offering peer lending tips, one of the commentors brought this up with the following comment:

“Dumb lenders who dont understand risk/return really do ruin P2P lending.  Since most of the loan listings are setup as an auction, people bid the rate down and make many attractive loans become unattractive due to the rate.”

The existence of these bidding wars also been addressed in a more eloquent manner on the Prosper blog by WealthBoy. He offers some great advice on bidding strategies:

“Once you have placed your bids in accordance with your desired overall portfolio performance, you need to be patient and wait for the listings to close. ….. If you are outbid on a listing, do not be compelled to rebid. It is not a competition where you win a prize if you win the bid. If you were outbid, it was because the marketplace was willing to take on more risk than you.”

He emphasizes setting your criteria and then sticking with it, even though it may not be the easiest thing to do.  According to him, patience is the key to finding good investments on Prosper:

“It is of the utmost importance to be very patient when investing funds. …You should expect to lose a lot of bids. You should also expect to do a lot of bidding before having a winning bid on a funded loan. I’ve found that only about 10% of my bids are being funded ….”

Lenders that are not patient may bid down loans to an interest rate that doesn’t effectively factor in the risk of default considering the borrowers financials.  The problem they face is that although they may win the bid in the near term, over the long term the performance of their loan portfolio suffers since they aren’t being paid enough interest for the level of risk they accept. Smart prosper lenders will listen to the advice given above and will be more profitable for it in the long run.

Lending money on sites like Prosper & Lending Club can be a great way to diversify your investments if you take the right approach managing your downside risk.

Who doesn’t want to maximize returns and reduce risk, but it’s easier said than done right?  A recent article from MarketWatch offers some advice to lenders on how to go about lending strategically. Mark Meyer, director of the Filene Research Institute, starts it off by pointing out the relationship between the projected return on the loan and the potential for default.

“Assume that the higher the return is going to be, the higher the risk is going to be if you’re a lender.”

Typically, borrowers with stronger credit histories and low amounts of debt will pay lower interest on the money they borrow.  If you as a lender are determined to get the maximum interest rate, you’ll likely have to lend to people who have been or are currently in a worse financial condition and are more likely to not pay back the money they borrow.

The MarketWatch article gives the following tips on maximizing your return and reducing your risk on sites like Lending Club & Prosper:

Know the Lending Standards

• Lending Club borrowers are required to have a FICO score of at least 640 to get a loan
• Prosper has no minimum FICO score, if enough people are willing to bid on a high risk borrower the loan will get funded
• Zopa utilizes credit unions & certificates of deposit to reduce risk but the result is lower returns

Use Logic Over Emotion

• Borrowers on peer to peer lending sites offer a profile of their financial situation. Your risk goes up considerably if you base your decisions off of the emotional appeal of their loan request instead of their financial ratios

Diversify Risk

• Don’t put all your lending money into one loan, instead of lending $1,000 to one person, fund 20 loans each with $50
• If you do lend to a high risk borrower, also fund a low risk loan to even  out your downside

Take Babysteps

• Avoid investing large amounts right off the bat.  Make a few small loans to get comfortable with the process. Once you’ve evaluated what went right or wrong with the first few, then you can move on to larger size and quantities of loans

Source: MarketWatch.com: Looking for lenders: Peer-to-peer lending sites can offer attractive returns, but be careful

If Asheesh Advani has anything to say about it, this kind of inter-family lending will continue and flourish, aided by his company Virgin Money USA. Advani is President and CEO of Virgin Money, originally launched as Circle Lending in 2006, then acquired and rebranded as Virgin Money in March 2007. So far, so good. The company has processed more than $250 million in loans with a total default rate of 1.5 percent, only 0.5 percent on its mortgages.

Thanks to Advani, people in the same situation as our grandparents now have an easier way to lend money to their family, a need that will probably increase as wealthy baby boomers look to help share their financial success with family members.  According to Advani there are several reasons why someone might opt to use Virgin Money:

“The tax and legal benefits are compelling,” he said. “When you loan money to your kids through Virgin Money (say, to buy a house), your kids can deduct the interest that they pay you from their taxes just like you would do with a bank.”

In addition, it can make the loan seem more “official” with paperwork and payment plans which helps borrowers stay current on payments and reduces the stress of lending to family members.

Source: TheState.com: Anyone can be a banker with peer-to-peer lending

The trend of borrowers with higher credit ratings on Prosper will hopefully translate to lower risk loans, and a decrease in the number of defaults. The more qualified borrowers there are, the more options that lenders have. Larsen speculates that the current credit crunch is making credit even more expensive for good customers and some of them are turning to Prosper for a loan.

Source: TheState.com: Anyone can be a banker with peer-to-peer lending

You need to understand the model you’re utilizing in peer-to-peer lending. They all have nuances and differences. [Mark Meyer, director of the Filene Research Institute]

Depending on the level of risk you’re willing to accept and the amount of return you’re targeting for your loan, you’ll want to consider different person to person loan sites:

• Lending Club, only those with a FICO score of at least 640 can apply for a loan, and a borrower’s debt-to-income ratio can be no more than 30%
• Prosper, allows the market to decide which borrowers get funded, so any borrower — regardless of credit score — can make a pitch.
• Borrowers at Zopa need at least a 640 FICO score, and must become a member of a credit union.

This isn’t to say you can’t find quality debt to finance on Prosper, you just have to spend more time screening for quality lenders.  And while Zopa US has tighter loan application restrictions, it also offers lower returns with its fixed rate certificates.

As a lender, you’re in the driver’s seat. Jean M. Garascia, associate analyst for Javelin Strategy & Research points out that “The demand for loans is much higher than the actual capital available”.  Be selective in the loans you fund, there are many potential borrowers out there, make sure you have a process in place to find those that best fit your risk/reward comfort level.

Source: Wall Street Journal – Borrowing From Peers

If they don’t have the right answers, they don’t get the loan!  It’s the same case with borrowers on sites like LendingClub and Prosper, don’t lend them any money unless they’ve met all of your criteria for a borrower.

Many times people asking for money on peer lending sites forget that they’re trying to show lenders that their loan would be a reasonable risk.  The borrowers don’t include enough information in their loan listings and sometimes provide data that doesn’t seem to make sense. 

Take these Prosper listings for example, only $675 a month for housing in San Francisco or how about someone who is in desperate need of money but still spends $80 a month on their cable bill?

The bottom line is to be picky about who you lend money to.  Make sure you have all the facts you need about a borrower before lending them money.

A new company named Fynanz aims to offer students an alternative to the troubled student loan industry by creating a private marketplace for private student loans from friends, family, alumni, and investors.

To apply for a loan, students fill out an application and create a personal profile, including the amount and interest rate desired. Tapping into 15 years’ worth of student loan data, Fynanz uses that information to give each student a grade and place them in one of six groups reflecting both their credit score and their academic characteristics, among other things. Individual lenders including friends, family and alumni of the institution the student attends are then given priority as they bid alongside lender networks to fund the loan. The more participants bid on the loan, the lower the winning rate is likely to be

One obvious question, what will Fynanz offer to students that sites like Prosper and LendingClub do not?  If Fynanz is smart, they will follow in the footsteps of LendingClub and have a presence on Facebook to tap into the social network of students.

Source: SpringWise – Peer to Peer Student Loans