As you have probably gathered by now, I am in a committed relationship with Lending Club. We’ve been together for a little over two months now. I give it my money and they give me fantastic interest rates. While it’s only been two months (so I won’t have any defaults yet), I think I’m doing better than average. I’m at a 15.47% Net Annualized Return, which I’m pretty happy with. To top it off I haven’t had any skipped payments, so at the moment (knock on wood), all my loans are performing perfectly. Clearly, my loan selection criteria are working so far.
Borrowers Are Paying Off Loans Too Fast
Since I don’t have any defaults to worry about just yet, there is something else that is affecting my portfolio negatively. I’ve picked a few people who are too responsible. While most people pay off their loans on their scheduled dates, these three people in my portfolio paid off their loans far too quickly. In fact, they paid it almost immediately.
Why Paying Off Loans Early Is Bad
Maybe these people just needed a short-term loan and were willing to pay a few dollars of interest to get it. It doesn’t really matter to me, but it has affected my returns in two significant ways. Let me show you how:
The first way it affects me is that the amount of time the money sits idly in my account is longer. Instead of funding a different loan, I am funding this one. Either way there’s about a week between when I invest in the loan and when the loan officially starts, but with other loans, I’m ok waiting a week with my money tied up because they’ll be paying me interest for the next few years. When people pay back their loans in full within a month, it means that I wasted that extra week and now I’m going to have to start the process over again.
The second way it affects me is a bit easier to understand. Lending Club charges a 1% service fee on each payment from the borrower. On a $25 loan, that amounts to a about 25-32 cents over the life of the loan depending on the interest rate. For loans that are paid off in the first month, the 1% is 25 cents, which means that I’ll only make about 3-4 cents on the entire loan. That’s equivalent to 1.8% annualized in interest. That sucks, my goal is to make 13% or more on these loans!
Each loan essentially costs 25 cents (1% fee of my $25.00 that I invest in each loan) and 1 week of idle money. In most scenarios that extra week is a very small percentage of the whole loan. In these few cases, it’s 20-30% (or more) of the entire loan period.
I was the return for my investment to be as high as possible. But when they pay back quickly, I only make about 3-4 cents, which definitely isn’t worth it!
If you see loans that people promise to pay off early, stay away! These are definitely loans that should be avoided!
I hate the Net Annualized Return, because they don’t calculate it as it should be calculated. I had one where the payment was overdue and I didn’t want to risk a chargeoff, so I sold the loan at like 30% of the value. Since I sold the loan, it no longer gets calculated in the annualized return. Of course my return is going to look good if you only count the loans that I am still holding (because those ones are current).
@Kevin @ Thousandaire.com, How do you know it’s not calculated? Maybe this is a foliofn thing?
Also, based on this chart (at the bottom), you’re usually better off just holding on to loans unless they are super late. How late was this payment?
https://www.lendingclub.com/info/statistics-performance.action
@Kevin @ Thousandaire.com, Read the last paragraph here: https://www.pluggedinfinance.com/2009/06/sold-my-first-delinquent-lending-club.html
Looks like foliofn doesn’t calculate it properly, which is a Lending Club problem. Dude, it’s time to move to LA. I’ll play frisbee with you if you need a new partner :)
Daniel, You have hit on a problem that I know annoys many investors. What you didn’t say is that it is theoretically possible to lose money, particularly with the high-grade notes (A,B and C). This has never happened to me but I know other investors who have lost a few cents on a loan because it paid off in full on the first payment. I have talked with Lending Club about it and they are aware of the problem but said it has only happened a few dozen times out of 40,000 loans.
And yes @Kevin is right. The NAR calculation does not take into account any transactions on Folio.
@Peter Renton,I doubt it’s only a few dozen times seeing as I have 3 that were paid off within the first month of my first 200, but it doesn’t seem like it will ruin the NAR too terrible. Better than a default!
@Daniel, Investors don’t lose money on every loan that pays off early – I think that is what they meant. It doesn’t hurt the NAR because that is only a measure of outstanding principal but it is a pain nonetheless. But Of course, we would all rather have that happen than a default.
Found this post while searching for info from a potential borrowers perspective. I was thinking about getting a small loan but didn’t want to be tied up with payments for three years. Interesting to see the affect it has on the lender. Although not your purpose, this post has been helpful to me. Thanks!