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Reading the Prosper.com forums, one of the complaints I see regularly is about lenders ROI percentage (return on investment). Well, generally, with a good loan, Prosper’s ROI is quite good. What is going wrong then? Well, one area to look at is the loan auction.

Too often, loans that are getting fully funded are getting bid down to very low interest rates compared to the credit history involved. I have become more and more dismayed at the loan auction format and turn more and more to automatically funded loans because of the guaranteed interest rates.

What is happening here and going wrong? Well, lenders should give up on a loan when the rate gets too low. What I do personally is bid and then allow the listing to be outbid if the rate gets too low. Well, more often than not, the rate does get bid down and that means my lending funds are sitting still too long whilst a good loan is found. Generally I don’t use rate laddering, mainly because I rarely invest too much into a single loan. Rate laddering works effectively with more than 2 bids.

So what is the solution? Fund more loans by not bidding the fully funded loans to death. There are way too many bidders on funded loans. The solution is for lenders to bid more broadly on loans that are not fully funded and stop bidding on “loans that are green” which alludes to the green bar on the funded % at 100%.

This may be hard to do. It’s tempting to want to get into a sure thing, a green bar means once the loan ends, and it will go into review and become an active loan shortly. But that temptation is short sighted when you consider the ROI you are losing out on.

Look at this simple calculation:

Take an interest rate and divide it by 72. The resulting number is how many years it will take to double your money at any given rate.

So, let’s take a loan at 20%, divided by 72 (72/20), you get 3.6 years to double your money. If the loan is bid down to 14%, then your timeframe changes to 5.15 years. That’s almost a 2 year difference. Extend that over time, and your gains will suffer significantly, much more significantly than letting your money sit idle while you wait for a good loan.

So, my suggestion (in addition to what I suggest Prosper do) is to wait for a better interest rate instead of “green bar lending”, over time it’s much more profitable when it begins to compound.

1 comments:

At January 9, 2008 at 8:41 AM zcommodore said...

Good luck getting 20% on your loans on Prosper, particularly if you bid mostly on autofund loans. Have you checked out the performance of autofund loans vs. non-autofund loans?

I bid on a lot of autofund loans earlier in my lending and my ROI according to lendingstats is roughly negative 14%. Don't do as I did.

 

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