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Lending Club Secondary Market: Loan Vintage and Loan Status at Listing

Best Practices for Automated Lending on Lending Club and Prosper Platforms through PeerCube

Prosper Loans Historical Listings: Prosper Ratings, Charge Offs and Performance

Posted by Anil Gupta | Monday February 2, 2015, 11:57 am | Categories: PeerCube Prosper

Please refer to the previous post Prosper Loans Historical Listings: Default Rate, Originations, Rating and Days Past Due for information on data collection and dataset used in this analysis.

Prosper Ratings

Prosper rates their listings in seven different groups, AA through HR. AA rated loans are considered to be least risky while HR rate loans most risky. Prosper Past Loan Performance by Prosper Rating provides an overview of historical performance in aggregate and by vintage for each Prosper Rating. The Loss Rate varies from 0.48% for AA rated loans to 17.24% for HR rated loans in aggregate.

The chart below shows the distribution of loan volume by Prosper Rating and the distribution of loan status within each Prosper Rating. Prosper’s focusing on high quality loans in recent year, as mentioned in previous post, is quite evident in this chart, too. 73.2% of all loans in dataset were rated AA through C. 82 to 84% of AA through C rated loans have Current loan status, while only 37% of HR rated loans have Current loan status.


Chart - Prosper Loans since 2009: Loan Volume by Prosper Rating and Loan Status
Chart 1 - Prosper Loans since 2009: Loan Volume by Prosper Rating and Loan Status

Loan Status

Prosper classifies loan status for a loan in one of six categories: Cancelled, Charge Off, Completed, Current, Defaulted, and Final Payment in Progress. Prosper Past Loan Performance by Loan Status provides an overview of historical performance for each Loan Status. The Loss Rate for Charged Off loans is 74.47%, i.e. almost 75% of amount lent is lost due to charge off.

The chart below shows the percentage of loans with charged off and completed loan status with Prosper Rating. For simplicity, the Charge Off and Defaulted status are combined together as Charge Off. Similarly, the Completed and Final Payment In Progress status are combined together as Completed.

As almost 2/3rd of loans in dataset were originated in 2014 and the share of high risk loans in such loans has been declining, the presence of loans with Current status interferes in comparing the Charge Off and Completion Rate among loans of different Prosper Ratings. To eliminate the influence of recently originated loans on charge off and completion rate, the loans with Current status are excluded from this chart.


Chart - Prosper Loans since 2009: Charge Off Rate and Completion Rate with Prosper Rating
Chart 2 - Prosper Loans since 2009: Charge Off Rate and Completion Rate with Prosper Rating

Conditional Probabilities and Odds

This is a good place to segue into the probabilities and odds concepts as mentioned in a previous post Credit Scoring and Models: Decision Trees.

The percentages shown for charge offs and completions can be considered probability of charge offs (Bad outcome) and probability of completions (Good outcome) given a particular Prosper Rating of loans. These probabilities can be used to calculate the odd ratio of good and bad outcomes. The table below shows the probabilities and odds of good (G)and bad (B) outcomes.


Table 1 - Conditional Probabilities and Odds with Prosper Rating
Prosper Rating AA A B C D E HR
P(G | Rating) 95.77% 89.90% 84.67% 78.48% 74.09% 69.64% 64.34%
P(B | Rating) 4.23% 10.10% 15.33% 21.52% 25.91% 30.36% 35.66%
o(G | Rating) 22.6 8.9 5.5 3.7 2.9 2.3 1.8
o(B | Rating) 0.04 0.11 0.18 0.27 0.35 0.44 0.55

There are two observations that can be made from odds ratio for different Prosper Ratings:

  1. A lender’s odd of picking good loans increase ten-folds with high quality AA rated loans versus E and HR rated loans.
  2. A lender can expect to have one default for every 23 AA rated loans compare to for every 3 E and HR rated loans.

Of course, because of such low odds of success with high risk C, D, E and HR rated loans, lenders should be adequately compensated with the higher interest rates on such loans.

As mentioned above, almost 75% or original principal is typically lost when a loan is charged off. The lenders targeting low quality high risk loans need to make sure that not only two out of three loans are completed but also these two loans need to have combined return of at least 75% (37.5% return per loan) just to overcome principal lost to one charged off loan. Similarly, lenders targeting high quality low risk AA rated loans need to make sure that not only 22 out of 23 loans are completed but also these 22 loans need to have combined return of 75% (3.41% return per loan) to overcome principal lost to one charged off loan.

We are also interested in the distribution of Prosper Ratings among the good and bad outcomes separately. We can calculate the likelihood that a good (or bad) will be of a particular Rating as follows:

f(AA | G) = 95.77 / (95.77 + 89.90 + 84.67 + 78.48 + 74.09 + 69.64 + 64.34) = 95.77 / 556.89 = 0.17
f(HR | G) = 64.34 / 556.89 = 0.12
f(AA | B) = 4.23 / 143.11 = 0.03
f(HR | B) = 35.66 / 143.11 = 0.25

The likelihood of finding an AA rated and a HR rated loan in Good outcome is 17% and 12% respectively. The likelihood of finding an AA rated and a HR rated loan in Bad outcome is 3% and 25% respectively. While Prosper Rating may not help in identifying good outcome, but Prosper Ratings do help in identifying bad outcome.

Loan Vintage

The chart below shows the charge off rates for different vintage and rating of loans. As completion rate is simply the 100 - charge off rate, completion rate is not shown on the chart. The Loan origination year is displayed in reverse, from 2014 to 2009, because it enables us to view the Charge Off rate as loan ages. The average loan age of charged off loans is also displayed on right axis. For example, average age of AA rated 2014 vintage loans is about 10 months and Charge Off Rate for such loans is 2.51%. We can proxy the average age to state that 2.51% of AA-rated loans are expected to be charged off within 10 months of being issued. Similarly, 3.33% of AA-rated loans are expected to be charged off within 18 months (average age of 2013 vintage charged off loans) of being issued.


Chart - Prosper Loans since 2009: Charge Off Rate with Origination Year and Prosper Rating
Chart 3 - Prosper Loans since 2009: Charge Off Rate with Origination Year and Prosper Rating

You may notice that the 2012 vintage loans for all Prosper Ratings have highest charged off rate across all vintages. This pattern is most likely due to most charge offs typically happening in early stage of loan’s life while most completions happening in the late stage of loans life. The charge off for 2012 vintage are indicating that most of the charge offs are accounted for by month 29 to 31.

Key Takeaways

  • On average, highest charged off rate for all Prosper Ratings are seen by 29 to 31 months after loans being issued.
  • While Prosper Rating may not help in identifying good outcome, but Prosper Ratings do help in identifying bad outcome.
  • The lenders targeting low quality high risk loans need to make sure that not only two out of three loans are completed but also these two loans have combined return that overcomes principal lost to one charged off loan.

Update (February 03, 2015)

The discussion at Lend Academy Forum led me to update this blog post. I would like to clarify that the Chart 3 above shows that Charge Offs as percentage of Charge Offs and Completed (Fully Paid) Loans. The loans with Current status are excluded from this chart.

The chart below shows the Charge Offs as percentage of Originations, that is all loans including loans with Current Status are included.


Chart - Prosper Loans since 2009: Charge Off Rate with Origination Year and Prosper Rating
Chart 4 - Prosper Loans since 2009: Charge Off Rate with Origination Year and Prosper Rating

Comments: (4)

Miks | Tuesday February 3, 2015, 2:00 am

Hello!

Lately I have been reading a lot about p2p lending and your blog as well. I have a question which answer i can't seem to find anywhere.

What exactly are notes in p2p lending? Are they some platform's system automatically generated notes for loans? Can you give examples?

Best Regards,

Miks

Anil Gupta | Tuesday February 3, 2015, 1:11 pm

@Miks, you may want peruse Lending Club and Prosper sites to understand how the whole peer to peer lending  work. Also, a good educational site for P2P lending is Lending Memo.

In a very simplified and noob point of view, Notes are issued to lenders. Notes are tied to a Loan issued to a borrower. A loan can have 100s of notes associated with that particular loan. A note is your share of a loan.

Miks | Tuesday February 3, 2015, 11:10 pm

Oh, thanks Anil!

Now it's clear. I'm surprised I didn't got that before :)

BR,

Miks

Hrant | Thursday February 5, 2015, 9:32 am

Thank you Anil for your insightful statistical gymnastics, and interesting results presentation.

So, the $64. question is how to invest, and what rate are optimal allocations of funds if one were to invest heavily in LC/Prosper...of course based on actual loans of LC/Prosper

What does actual ratings, returns, results, tell us in completed loans only, to invest in which grades, tiers, etc...for optimal returns.

Great work again Anil, keep it up!

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