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Zopa Risks & Lending Speed Rise, Rates Stable
- Speed of getting money on loan: up
- Proportion of loans accepted: up
- Riskier borrowers: up
- Interest rates: stable
Zopa has taken steps to help get lenders' money on loan faster and to stabilise rates, and set a scene which could lead to rate rises. The flipside is higher forecast bad debts, partially countered by bigger payments to its bad-debt provision fund.
Zopa's changes in brief
In January 2015, Zopa started offering loans to a few more slightly higher-risk borrowers in order to keep interest rates up.
It's also accepting a higher proportion of loan applications than it used to, to ensure it has enough borrowers to keep pace with lenders.
Plus, it's made it easier to get your money on loan faster and it has stabilised its interest rates for lenders.
That's a lot to talk about, so here's what this all means for the interest you earn and the risks you'll face.
Zopa is accepting more borrowers
In a meeting with Zopa's Mat Gazeley, PR Manager, and Vincent Alcaix, Financial Data Scientist, we talked about how Zopa has gone from accepting 1% of loan applications to 20% since Zopa began ten years ago.
As individual lenders, we want to see that P2P lending companies don't offer loans to all-and-sundry. A low acceptance rate is a potential sign that it is sticking to low-risk borrowers, so we have to watch any rises.
However, 1% was unnecessarily low. Zopa could never have intended to maintain that acceptance rate as it learned and grew, and it would have been needlessly strict in any case.
In addition, Zopa's team of risk experts and data scientists has now got a decade of lending data that allows it to find more responsible borrowers who it might have rejected in the early years, while still sticking to what it's shown itself to be good at: personal loans.
This can potentially give Zopa flexibility to increase the loan acceptance rate without massively reducing standards – up to a point.
20% is still very selective. However, it could be getting towards the upper limit of what we might call the most responsible borrowers.
The latest claims from other P2P lending companies that pitch themselves as safe, including RateSetter, Lending Works, Landbay and Wellesley, are that they have loan acceptance rates that are typically 10% to 15%.
That doesn't necessarily make them safer than Zopa, but it indicates that if it goes a whole lot higher than 20% then we're probably getting into a different level of risk.
Why is Zopa saying Yes to more borrowers?
Zopa has needed to increase the number of borrowers to keep up with lenders.
Because, when there are too few borrowers compared to lenders, two things happen.
Firstly, it can take longer for us lenders to get our money out on loan.
Secondly, the interest rates we receive on our lending can be pushed lower down. Since we all compete to lend, we ultimately have to accept less interest just to ensure that we get our money lent out, rather than someone else.
In other words, it's similar to the property market: if there are too many homebuyers compared to the number of properties for sale, the deal gets worse for the people handing over the cash and it takes longer to be able to get a deal done.
Zopa lenders have recently suffered from both of those issues: downward interest rates and longer waits for money to get lent out.
Now that Zopa is accepting more borrowers, potentially at higher interest rates, this has probably contributed to the halt in interest rate decline. Zopa lenders seem to be earning a reasonably steady 4% when lending for three years and 5% over five years.
A higher acceptance rate is also probably a big factor in speeding up lending times.
Gazeley said that lending times are seriously improved this year, with money usually lent out in 24 hours. If you like to lend regularly, and re-lend repayments and interest you receive, this could nudge up the overall interest you earn by a few tenths of a percentage point per year.
Shifting to more higher risk borrowers
Zopa has also shifted its “borrower mix”, so that it actually accepts a lower proportion of the very best borrowers (which it calls A*) and it's throwing in some more borrowers a bit further up the risk scale instead.
The advantage here is that Zopa can charge those higher-risk borrowers more interest and therefore boost the overall interest rates that we lenders earn. This, too, might have helped stop the decline in interest rates lenders have faced in recent years.
To help compensate for higher risks, Zopa isn't just charging higher interest rates to its higher risk borrowers; it is also taking a larger contribution from them to put into its bad-debt provision fund.
How have the risks changed
Zopa blogged recently: “We're still targeting…very prime (i.e. low risk)…personal unsecured loans.”
Even so, lenders can read the signs over the coming months to try and ascertain how much the risks have gone up as a result of the recent changes. Here are three things to consider:
1. How have bad-debt forecasts changed?
Forecasts are not a great way to see what bad debts will be in future, because they're invariably inaccurate, but if a P2P lending company is raising its forecasts, this is a very strong sign that risks are rising.
Zopa is now forecasting 2.9% bad debts up from around 2%. That's the expected bad debt over the lifetime of the loans. So, for all loans issued in a given year, the total bad debt on those loans by the time they're all paid off will be 2.9% of the lent amount.
(Sorry, that's complicated. 4thWay® tries to explain more in What Is The “Bad-Debt Rate?”)
Note that Zopa has historically been cautious with its forecasts, with the actual bad debts coming up much lower than predicted, at least during moderate and good economic conditions.
Alcaix told me that if there are 0.5% bad debts over 12 months, Zopa might then forecast 2% bad debts over the whole life of those loans, to be on the safe side.
In the past three years, despite having similar bad-debt forecasts to RateSetter, Zopa's lifetime bad-debt rates have been, so far, less than half those of RateSetter.
2. How fast has the loan acceptance rate increased?
We haven't been informed how fast Zopa bumped acceptance rates to 20%.
If it was 10% just a year ago, then an increase to 20% is very significant. That could well make Zopa an entirely different animal.
On the other hand, if the acceptance rates had been held at, say, 17% for some years, a small bump isn't likely to increase the risks too much.
I think it's more likely to be closer to this second scenario than the first. Loan acceptance rates have probably crept up more steadily over the years, as it has searched for ways to grow and expand.
But without being told how much rates have been bumped up from in the past few years, it therefore pays to be cautious.
Zopa lenders should keep an eye on late payments, bad debts and any other signs, to try to check as early as possible that any rise in risk that occurs is just modest.
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3. How much has the borrower mix shifted?
It's too early to say how many higher risk borrowers are being accepted, so this is a question mark.
Soon we intend to look through all Zopa‘s historical loans and try to ascertain how the proportions have changed from the information available. We'll keep you informed.
Plans for the future
Zopa has stated that it wants to increase the number of higher risk borrowers further to bring its loans “more in line with typical UK high street bank loan portfolios”. I expect this could start to happen from as early as July.
That's something to watch, but it should be okay. It's not the incredibly low-risk and low losses we've seen so far from Zopa, so the risks will be noticeably higher.
But banks generally get this sort of lending right; personal loans are not the sort of product that gets banks in trouble or gives them deep losses. It's their bread and butter.
Zopa estimates this change will boost its forecast bad debts to 3.7%. In other words, it'll be forecasting roughly twice the bad debt than it used to.
However, if its actual bad-debt rate merely doubles, that would still put lender losses no higher than RateSetter. Hopefully, Zopa lenders' interest rates will rise to match.
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