Lending Club’s Bumpy Ride

Even by the unusually turbulent standards set by the first eventful 31 days of 2016, Lending Club’s entrance into the new year has been bumpy to say the least.

A year ago at this time, the picture was very different.

Just off a successful IPO in December 2014 that raised $860 million, as February 2015 opened, the P2P lender was trading at over $23 a share with a market cap north of $15 billion. These days, the picture is not quite so sunny. The firm is trading at $7.30 share with a $2.85 billion market cap – or less than a third of what it was a year ago today.

And, it seems, Wall Street’s analyst class does not quite know what to make of Lending Club these days, as they were a little all over the map in the first few weeks of the new year. Compass Point keeps reiterating its Sell position while Pacific Crest is equally sure of their Buy rating (though they did lower their target price to $18) while Zacks is currently at a Hold, but two weeks ago it was a Sell, and two weeks before that it was Hold.

All in, four analysts have rated the stock with a sell rating, two have given a hold rating, nine have assigned a buy rating and one has issued a strong buy rating to the company’s stock — so it’s safe to say there’s not a strong consensus.

And while it is easy to pick on Wall Street analysts’ predictions, the truth is the news out of Lending Club these days has invited a diversity of opinion on the firm’s health — and the health of the P2P lending segment in general. A week ago, the approaching sale of $1 billion in Lending Club loans by Santander sent watchers clamoring to their keyboards to wonder “Lending Club Corp: Is the Revolution Over?” The news yesterday that JPMC will be the buyer of those loans seems to exert some initial positive pressure on the stock.

So what’s up with Lending Club, why is JPMC so happy to take Lending Club’s loan off its hands, and why should every player in the P2P space pay attention to what happens next?

Why The Cheerleaders Remain Peppy

The good news from JPMC came in a particularly timely manner as the looming Santander sale was a source of growing agita in the ecosystem around Lending Club. By 2013, the Spain-based bank agreed to purchase as much as a quarter of the debt that was originated by the online lender for three years. Those loans were primarily low prime and non-prime credit underwriting, as they offered an attractively high yield in the zero-interest rate environment.

However, a glance at Santander’s fourth-quarter results indicates that perhaps those yields weren’t quite as productive as initially hoped. The firm reported a loss of $232 million on its unsecured personal loan portfolio, $123 million of which came from borrower defaults.

“In light of the damage that the personal loan portfolio inflicted on Santander’s income statement in 4Q15, we will be relieved when Santander is out of this business,” Chris Donat, a company analyst at Sandler O’Neill & Partners, noted in a report.

JPMorgan Chase’s widely anticipated decision to acquire just over $900 million in personal loans has done much to calm those worries.

Interestingly, there seems to be some divergence in how the quality of the loans is being reported. The Journal indicates the loans in the package carry an average FICO score of 700, or low prime. Bloomberg’s reporting indicated the same package of loans was a mix of low prime and subprime scores.

The package was sold to JMPC for a premium to the outstanding balance on the loans, a person familiar with the terms of the deal told The WSJ. The premium sale has generally been taken as a positive indicator for the strength of the loans.

And this was an important development, as it seems to have quelled some of the worries that the value of the loans had diminished following Santander Consumer’s markdown last week of some loans it held for sale.

Aside from the confidence vote from the nation’s largest bank, Lending Club also has growth on its side — or at least the perception of growth, since official numbers will not be out until the firm officially announces its earnings on Feb. 11. Most analysts are projecting that Lending Club originated over $8 billion in new loans in 2015. Many analysts argue given the firm’s obvious and continual track record of attracting both new lenders and borrowers to their platform, a share price below $10 is some drastic undervaluation.

And while there is something to be said for that, it also bears noting …

The Jeer Leaders Are Not Without Their Reasons For Worry

Lending Club grew up and came to prominence in a rather unusual time in the history of American financial services, as a massive financial crises brought on by bad lending standards made two things happen at once.

The first is that mainstream lenders where scared, regulated or sometimes just out and out chased from lending to consumers and small businesses, meaning there was a void to fill. Because the crisis brought on quantitative easing by the Fed — and an interest dropped to zero and held there for a decade — there was suddenly a large swatch of investors looking to pick up higher yield investments, and finding diminished options to do so. P2P lending platforms show up in the right space at the right time, consumers get a source of credit, investors got attractively high yields.

That party, however, officially came to an end in December of last year when the Fed decided it was time to rejoin the modern financial age, and raised the interest rate 25 basis points. Not a huge amount to be sure, but also the first of what are known to be many coming raises and enough to get the experts wondering how much increased interest rates change the math of P2P platforms.

Increased interest rates put pressure on both sides of the deal that Lending Club facilitates. Borrowers, when facing more interest, become more likely to default. Lenders thus face more risk while also having potentially better options in lower-yield traditional vehicles.

Some sources are dubious that this effect is likely to be felt all that soon. TechCrunch notes that Lending Club’s prospects remain strong as long as defaults don’t start showing up, and anticipates a coming rise in stock price.

Other extremely sharp-eyed FinTech watchers — as reported by Bloomberg last week — aren’t so sure about that, as a recent SEC filing indicates that Lending Club has already started seeing some defaults, or is at least anticipating them.

In the SEC note, Lending Club changed rates assigned to its loans, which are graded according to quality.

Compass Point analysts Michael Tarkan and Andrew Eskelsen estimate that the new rates are on average 47 basis points higher than Lending Club’s rates were on Dec. 22.

And that data actually gets a little more concerning on a second look, according to the analysts, because the average increase disguises two things. The first is that not all loans went up in price; rates on high quality loans to prime borrowers actually when down on average about 3 bps. Low-quality loans, on the other hand, saw a spike to 67 bps in some cases.

“It is difficult to know why the company took rates up this time, but we suspect it could be related to recent disruptions in credit markets and investor fears around underlying personal and auto loan credit as overall sentiment remains under pressure,” noted Tarkan and Eskelsen. “This premise would be consistent with increasing rates for lower quality borrowers as investors may be asking for higher risk premiums in anticipation of higher defaults.”

Now one change in rate is not a solid case for anything — especially since Lending Club changes its rates a lot. However, the Tarkan and Eskelsen report also notes that this recent change is out of step with what the company has been doing with its rate for the rest of the year, revising them down as they attempt to draw more customers to the platform. The change in direction is at least notable.

It should be noted that at the time of the Fed’s rate increase, Lending Club Chief Executive Renaud Laplanche emphasized that “the value we deliver to our customers is not dependent on the absolute level of interest rates.” He further noted the “technology and low-cost operations” would help it continue to pass on savings to borrowers.

Which leads to the open question as Lending Club gets ready to face down the rest of 2015: Is Lending Club, and by extension the P2P playerscape, a technologically souped-up version of something standard, or something truly new in financial services made possible by technology?

Doubters are betting on the former.

“These companies are really specialty finance companies, but look at where speciality finance companies trade in the public markets,”  said an unidentified major marketplace lending investor, according to the Financial Times.

Others, however, believe that Lending Club’s growth and continually attractive yield propositions for some lenders will be decisive — and that the big banks’ votes of confidence that keep coming are indications that at least some bankers are ready to hedge their bets that these types of firms are going to be looking less niche as time goes on.

For now, of course, there is no way to know. But stay tuned — the earnings report on the 11th will start throwing some hard numbers around all of this speculation.