Why Prosper.com Will Fail
Posted by Justin McHenry in General
There's been a lot of hype about a newish Web site called Prosper.com that facilitates peer-to-peer lending. In short, you can go to the site and either try to secure a loan from other people that visit the site, or you can go to the site and be a lender, loaning out your money to others who need it.
Salon did a feature on it, as did BusinessWeek earlier this year (under the headline "The eBay of Loans?"), and I saw another one a few days ago. The site is run partly by the co-founder of E-Loan, Chris Larsen, so it's got some credibility in management. One person has already dedicated a whole blog to the wonders of Prosper.
It's really an exciting idea. Unfortunately, it will fail.
Here's why:
1. Scammers – The Internet provides excellent anonymity. While Prosper does do credit checks of those seeking loans and puts a credit rating for them right on the site, that doesn't stop those looking for money from creating elaborate scenarios as to why their credit is so bad (job loss, hospital bills, etc.) and why you should take a chance on lending to them. Sure, some people get into money trouble because of job loss and unexpected hospital bills, but others get into money trouble because they gamble, drink, or just plain like to shop and are happy to find a sucker who will feed the habit.
And you know there are already teen hackers in the Ukraine who are looking for ways to use the identities they stole this morning to nab some money from gullible Americans.
Be softhearted and you could see your money go bye-bye.
2. People with good credit don't need it, people with bad credit have nothing to lose. Look on Prosper and you will see that many of these loans are going for interest rates of 15% and more. The only people getting decent rates are those who have good credit, and there aren't nearly as many of them.
Why? Because people with good credit can get comparable or cheaper rates with a credit card, home equity loan, or small business loan if need be. They don't need this service, although a few may try it out to see what they can get.
If you have bad credit, however, why not use Prosper? You've got nothing to lose, because your credit's already shot and you might be able to get some money at a better rate than the payday loan lender is giving.
If you're a lender on Prosper, the promise of loaning your money out at 17% sounds great, until the loans start defaulting. Prosper's in its honeymoon period now, but when those high-interest loans come due, you'll see why the lendees have the credit ratings they do.
Which brings me to my next point:
3. Lenders will leave after getting burned or getting bored. Because the number of decent credit customers will be low, Prosper lenders will either tire of the site because their only potential lendees have horrible credit, or they will start making riskier loans in search of higher returns, and will leave after getting burned one too many times.
It's very tempting to lend at the rates you see on Prosper, especially when the stock market's unstable. But whole companies, made up of smart people with financial expertise, have been set up to offer loans to bad credit customers, and many of those companies have folded after too many defaults.
Anyone remember NextCard, the Internet credit card of a few years back? They offered easy credit and the government had to shut them down when they lost millions and millions of dollars. Other credit card companies serving the "subprime" customer have seen humongous losses, especially in economic downturns.
Maybe Prosper's lenders are smarter than these companies and will loan to only the right people. But how likely does it seem that a nation of lenders doling out money from their computers are going to have the expertise to outwit banks and other lending institutions?
Lenders who stick around are going to get burned and the downward spiral will be inevitable.
4. It's not an eBay of loans. BusinessWeek used the "eBay of loans?" headline to give a quick take on what Prosper could be. But where eBay uses its feedback feature to keep people honest (although of course not everyone is), Prosper can't really do the same. Many people on eBay are repeat customers–they want to play fair so they can keep playing. The only people likely to be repeat customers of Prosper are going to be those with financial trouble. Really, how many times do most of us need a $1000 loan if we have control of our finances?
So there is no real incentive to pay these Prosper loans back, especially if your credit record is already in shambles, because you don't need to worry about how you'll look to Prosper lenders later on.
Am I being too hard on Prosper? Am I looking only for the negatives and hiding the positives, glossing over the many safeguards Prosper has put in place to make this loan marketplace work? Am I just jealous that I didn't think of it first? Maybe.
So tomorrow I'll tell you why Prosper.com will succeed. [UPDATE: That article is now available here.]
You can leave a response, or trackback from your own site.
Just read your counterpoint post on reasons why Prosper will succeed. This post is more believable.
Prosper will succed.
#1) Prosper calls you up to make sure you are requesting the money..so that should substantially reduce fraud.
#2) As more people use Prosper (or any P2P lending) the rates will drop substantially.
***Peer2Peer Lending is a killer application of the web; its a great way to make more than 2% on your money and its a great way for borrowers to shop the best deal possible.
Prosper or some variation will succed.
Contrary to your thoughts Prosper.com is thriving. Late payments are rare (compared to the total amount of loans). see
http://www.wiseclerk.com
for detailed prosper stats.
Its money you stupid people, americans always fall into the same money making ideas, but if more borrowers are not paying back the loans, prosper can fall, lenders will be scared, like the stock market, then where goes your money for a 3yr loan? down the drain… I wish prosper and zopa would have came out yrs ago to fall with the other dot coms and leave us alone.
PROSPER IS A SCAM BE CAREFULL I HAVE A POSSIBLE IDENITY ISSUE FROM PROSPER AND THEY WON’T RETURN CALLS OR EMAILS
I’d have to agree that, once the novelty of P2P lending wears off, people with decent credit won’t have much use for Prosper.com. Eventually, the service will attract the lowest common denominator from the borrowing world, which will in turn keep away the average lender. The truth is, America is heading for a major crisis over spiraling consumer debt loads, and Prosper is likely to become part of the problem rather than part of the solution.
I think Prosper.com is great! So far everyone has been very supportive. The interface is also flawless and easy to use. Go Prosper!
I guess I’ll have to agree to disagree with the people who say that Prosper.com will fail. I am a prime example of why that is false. I fell from an ‘A’ credit score to a ‘C’ with 100% debt-to-income ratio after about a year of unemployment. Finally finding meaningful and good-paying work, I placed a listing on Prosper to help me in the process of avoiding foreclosure. I am finding Prosper to be very useful and will return as a lender when my situation is more stable. So you see, because borrowers can become lenders on Prosper, and can decide the level of risk they are willing to accept ~ and be supported by Prosper staff who actually do the lending (and collections when necessary) ~ Prosper is here to stay.
I encourage you to check out my Prosper listing at http://www.prosper.com/public/lend/listing.aspx?listingID=102009 and see how in the span of a few days over 40 lenders have collectively bid over 4000 dollars to serve two purposes ~ (1) to make a buck for themselves, obviously, and (2) to help me save my home, so they can feel good about the loan they are making.
Do yourself a favor, check out the listing at http://www.prosper.com/public/lend/listing.aspx?listingID=102009
I haven’t read the counter-point yet, but I’m surprised that no one has commented on the idealistic aspect of Prosper. It is arguable that financial institutions are the ultimate scourge of humanity. They create nothing, and consume and exploit in a way that is uniquely non-human. P2P lending is a great way to give the power to the people.
Call me romantic if you want.
Another reason Prosper.com may fail.
They’ve recently locked down discussion of one of their most prominent “groups”, and suspended several users for criticizing the leader of that group.
I expect and appreciate more honesty and transparency from my financial institutions. Especially one that hopes to build an online community.
To guitaronin:
Initially I had the same hopes. But Prosper hasn’t lived up to it’s idealistic promises. Many borrowers are routed to “group leaders” who do nothing, but collect hundreds of dollars in additional interest.
Meanwhile, as we’ve seen today, Prosper attempts to suppress that truth.
That’s just one example of how Prosper has become as exploitive as traditional financial institutions.
I did a piece on Prosper on my Everydayfinance site (click on name to visit). I can attest to the somewhat since I signed up a few weeks ago and have done ~$1000 in loans so far. I only started with $2000, but the diversified income potential is very appealing. While I agree with the potential for abuse, there is a nice check and balance system with incentives, which is the group aspect. There are some groups which have 100% performance on their loans. If you stick with the successful groups, you may give up a bit on the return, but have a much lower likelihood of a loss. I would be surprised if anyone doing their homework actually loses money if they’re spreading out their loans. Will report back in a week or two on my personal experience once the loan payments start coming due. Until then, good luck! Dan
To me those interest rates they show seem way out in left feild. I wonder if anyone actually will ever get paid back.
Prosper.com will succeed.
1) The “Scammers” will eliminate themselves, you can only scam so many times before you are caught or have to “run”.
2) The checks and balances will improve with time and the scams will be come old hat.
Before you know it, blogs will be posting every scam and scammer that abuses prosper.com and they will have to come up with a new scam. It’s like the computer virus, these hackers are still out there and are still writing programs that destroy many peoples dreams and businesses. But, if you keep your protection up to date you will manage just fine.
Prosper.com is going strong, well enough to now offer signup bonuses through their referral system. Personally, I’m at 13.5% with no defaults because I’ve done some basic research and spread my risk. If you want to be a lender and earn the $25 signup, you have to go through a site with a referral button. Since I don’t see a referral button here, here’s a link to everydayfinance which has the referral button:
http://everydayfinance.blogspot.com/2007/06/prospercom-referrals-for.html
I started a group that I think could be helpful for first time borrowers on prosper. It is a group where first time borrowers and experianced borrowers can both join. The first time borrowers can interact with the experianced borrowers to recieve info on any questions they may have. The link to join is below.
http://www.prosper.com/groups/group_home.aspx?group_short_name=beginnerborrower&referrer=jg1656&utm_source=referrer-jg1656&utm_medium=referral-link&utm_content=link&utm_campaign=referrals-group
Why your website will fail…
It doesn’t look right in Firefox… CSS issues.
Dropping in with the latest. I can’t say enough about the results to date. I realize, you can never rule out a default a year or two in, but after several months, a perfect record with a wonderful non-market correlated return.
I posted some independant research on loan default rates vs. loan amounts, which might help some people avoid defaults.
Active loans: 70
Avg. interest rate: 15.20%
No lates, no defaults
Lender since April 2007
Dan at:
http://www.everydayfinance.blogspot.com
The premise and title of Mr. McHenry’s artcle is a bit tawdry. Most of his points are pure conjecture and very wrong. 1. He is wrong on scamming. Prosper has the most extensive verification procedures that I’ve seen anywhere. They don’t even allow people in the Ukraine to be involved; it is for U.S. residents only. 2. He is wrong on lending. He says “People with good credit don’t need it.” That’s laughable. People with good credit borrow money, and most people with poor credit still try to pay thier debts. 3. Yes, some lenders to leave. But there are many more to take thier place. 4. It resembles eBay quite a bit, but its lending and borrowing, not a product marketing place. Unlike eBay, Prosper checks out every member very carefully for you. Take a look at my listing and tell me what you think — http://www.prosper.com/lend/listing.aspx?listingID=202592&referrer=aacorey I am new to Prosper, but I like what I see so far.
See my blog post on this topic.
References to adverse selection and NextCard are spot on. Folks, even if we were not at a point in time where you can through traditional consumer credit models out the window (and it is), you need to let the prosper data both grow (because you are skewed toward adverse selection in a new and novel credit offering early on) and to season. All this said, good luck to lenders, borrowers and the prosper team.
That’s an interesting concept, but I don’t see it very functional, I mean, this is a bank’s job, I don’t see it much different. The thing is that people better trust banks than other people…
I agree that Prosper will fail, for many of the reasons listed and others as well.
I have been a Prosper lender for 8 months. I, like most Prosper lenders, strongly believe that Prosper was a terrific idea, but one executed horribly.
Prosper’s performance numbers are MUCH worse than they advertise, its collections activities on late loans are anemic (only about 13% of the loan funds that go 1 month late are ever collected), its fraud detection abilities are poor (forum members have identified a number of fraudulent loans in the past; Prosper then eliminated making much of the data used to ferret out such loans viewable by lenders, and very recently, Prosper eliminated its entire forum, along with almost 2 years worth of collected wisdom contained in about 400,000 posts, and replaced it with a useless system that is essentially a Prosper FAQ); and serious questions have been raised about the ethics (and competence) of Prosper’s management.
The claim by Prosper CEO and co-founder Chris Larsen (made in a number of recent press articles) that “Prosper’s default rate hovers at 2.7 percent” is highly misleading (to say the least). That figure counts only loans that Prosper has chosen to officially declare “defaulted” and sell to junk debt buyers, and it measures those loans against the total amount of loans originated (including many loans that are so new it would be impossible for them to be in default even if they never made a single payment as scheduled). Meanwhile, there are MANY loans that are 4 or more months late that historically will deafult virtually 100%, but Prosper does not consider those “defaults.” Various careful analyses of Prosper’s own data shows that the real default rate is closer to 20%, not 2.7%.
The median projected Return On Investment for ALL moderately seasoned Prosper lenders (those with >20 loans and an average loan age of >6 months) is a little less than 5%. After taking Prosper’s servicing fee charged to lenders into effect, this is considerably less than can be earned on a fully liquid, FDIC-insured account such as from E-Loan (Larsen’s former company). Roughly twice as many moderately seasoned lenders have a NEGATIVE projected ROI (they can expect to earn NO net interest, but will actually lose some of their principal) than have an expected ROI >10%.
Anyone considering lending at Prosper would be extremely wise to spend some time at http://www.prospers.org (an unmoderated independent forum where all things Prosper related are discussed openly by many highly intelligent and very knowledgeable people) and at http://www.lendingstats.com and http://www.ericscc.com (two third-party sites that use Prosper’s own loan data to present a huge amount of easily accessed data regarding the actual performance of Prosper lenders, groups, and loans).
I’ve lost 1 out of 10 loans. This would be 10% lost, except the only one I lost was one I went for at a 27% interest rate, and only at 50 bucks, to test the water. From there I have a 20% rate, all the way down to 7.5%. Averaging 10.8% total. I avoid anyone asking for more than 8k and only deal with higher credit ratings. Prosper has been around long enough now, you can find people requesting their 2nd loan through prosper and you can see how they did on their first loan. Some may use that to scam the second time so be careful, but if they have decent credit, credible story and a decent rate, you are more likely to do well.
I think in the long run Prosper will fail because I’ve tried to email them and been given the run around about my password when i tell them the correct word they say its invalid try again, so I can’t get pass this problem.The credit company they use to find out your score is full of mistakes they do not update their info. in any way shape or form. I have one credit score but to experian I am very low score so Prosper will not let me ask for a loan even though I would to make a down payment on a house I can’t get any help from them. I don’t see the range of bad credit to good credit since your score has to be 560 or higher to get a loan from Prosper, If they good or great credit why??? are they on Prosper instead of the credit unions etc,?? or does Propser have other ways to ok you or not. I would just like some help to get ahead but not from this site
As of Oct. 2007, Prosper introduced bidding guidance for lenders. Bidding guidance is now based on historical performance data from actual loans made in the marketplace over the last 18 months or so (rather than the non-analogous and badly-fit Experian projections that the early adopters were stuck with).
This has begun to show up in the marketplate data (charts & analysis available at: http://www.ProsperLenders.com ).
The trend, post introduction of quasi-reliable historical performance guidance, is toward higher interest rates for all funded loans of all credit qualities, as well as for loans that fund being themselves of higher credit quality. Arguments to lack of lender sophistication (or at least appearance of such, if not actuality) and adverse selection are weaker now that Prosper spoon feeds lenders much better risk pricing guidance in the form of significantly more reliable/better-fit estimates of return…
On January 1st, I decided that I would consider lending money on Prosper. I have no debt and have a decent rate of return on my savings/investments. The savings yield 5.5%, the mutual funds go up and down, but seem to average 10%.
Prosper gets you to look at them due to hype. Get 9.49% to 12.81% on your loans. Help someone start a small business, be a good human being etc.
Now I’m having to admit that personal goodwill is just a way of justifying gambling that someone who was having trouble paying off $20,000 in credit cards debt at 30% is actually going to pay it back at 15% if they haven’t cut up the now empty credit cards.
I’ve made so few loans, that even one default is going to offset all interest income with a capital loss on my taxes. (Now I’m remembering why I no longer own individual stocks.)
Prosper, in it’s defense, does stress that any loan can default and that to truly be a lender you must spread the risk by loaning less money to more people. When you go to bid on a particular loan Prosper will now predict what your actual rate of return would be if you made, say, a 100 loans to borrowers with the same credit profile. I compare the predicated rate to my alternatives and my 5.5% is often a much better decision. The people who are chasing money are ignoring the predictions that their rate of return will be negative!
Some of the listings are mind boggling bad. “I want to borrow money so I can re-invest on Prosper.” “Lend me money so I can buy a car after I quit my job and go back to school.” “Look, I’m paying back on my first Prosper loan for $5000, won’t you please let me have a second loan for $20,000???” Others are just sad. Someone who makes $25K, has maxed out 15 credit card already isn’t going to dig out of that hole with anybody’s help.
The easiest loans to look at are the request for bridge loans (Propser ties your money up for 3 years so a plan to pay the loan back early is fine with me) or someone with a modest request to swap out 30% credit card debt who otherwise has A/B credit and only wants to borrow $5000…but these are the same loans every one else is looking at and the interest rates reflect that.
I started loaning money on Prosper in Aug2006 & made ~25 loans. Initially everything appeared fine, payments were being made on time & I was adding loans on a weekly basis. Then in early 2007 the wheels came off — 1 then 2 late payments, then bankruptcy’s started with loans that were only a couple months old. It appeared to me individuals who were anticipating bankruptcy felt this was good opportunity for last loan prior to filing. I immediately ceased making additional loans. Currently I have 22 active loans, with 15 current, since 3 have already been written off/sold by Prosper, 3 @ 4+ months late, 1 @ 3 months & 3 lates. The defaults include some AA, A & B ratings; & loans that have been current for over 15 months are now going sour. The collection agencies are useless as they have yet to collect a single late loan. In my opinion the only one prospering is Prosper.com.
I joined prosper over a year ago and out of the 29 loans I started with, only 17 of those have not yet defaulted and gone to collections. This means 0 cash back on those that went to collections. Loosing 50% of your money (so far) to make a possible 20% is not good odds. Better off putting your monies into a high interest savings account, at least that way you don’t lose.
Good luck to those willing to play the odds…
As for me, once my loans have completed the 3 year term, hopefully there will be something left over to put in the bank.
April 2008. I started lending on Prosper.com in May 2008. At that time I would have contended with Justin McHenry, but now, I’m afraid Prosper is on the path to failure and taking my investment with them. I think they have a great business idea and potential for success, but they seem to be shunning one of their important customer groups – lenders. I developed a website to communicate with lenders and borrowers about Prosper.com and hope that it will get Prosper’s attention. Please join me in suggesting what Prosper can do to correct their course of failure. http://prosperrevealed.com/what-should-prosper-do . Best regards. PR.
More evidence of Prosper’s growing problems.
http://www.prospers.org/forum/prosper_lenders_retain_legal_counsel-t8015.0.html
It’s two years later and it’s still going strong.
I have seen alot of negative response about prosper.com, from lenders that are not being paid back. Understandable so, but this was a risk and we all new it. I am a borrower, I had terrible credit and went to borrow from prosper. I only wanted to borrow a few thousand, but my State’s minimum was $10,000. My credit score was 560. I was able to answer all questions about my credit and my loan was fully funded. I had my cash in about 2 weeks. I am currently on year 2 of paying back my loan. I did have 1 late because I changed bank accounts, I emailed prosper, signed up my new account and waited for the verification and all is well. I think I ended up being 1 week late. This loan helped me so much when others wouldn’t take the chance. That is what this site is, a chance..It worked out for me and my lenders, I am paying 27% on my loan. It will be paid off by next Feb and I will continue to use this site, rather than go to a bank. I understand that people are losing money, but if they raise the standards too much, and only require good credit ( which is what they are starting to do), you won’t be able to ask for the interest rates they are currently getting. Lets face it, if I have great credit, why go threw the questions and the wait, I could just go to a bank.
When you go to your local bank and try to borrow a few thousand dollars and they want to charge you 12.5% interest with credit checks and cosigner, and also over $10,000 in collateral, this company looks very appealing. I got my loan for $5000.00 funded in less than one evening at 15.5% interest and no collateral. Thank you prosper.com! I was laughing my ass off when the prosper agent was on the phone with me and the bank agent to verify the bank account where the funds are being deposited. I don’t think I will be making any large deposits with that bank anymore…
Timestamps for comments would be nice.
There is a new site where members can donate money to each other for free. Similar to Prosper, accept without loans/repayment. Check it out at:
http://www.donategroup.com/
Thanks for posting about this, I would love to read more about this topic.
Thx for the LINKS ther are some interesstet links there!
Prosper gave me a “D” rating. I requested a $1,200.00 loan. I ha 5 bids toalling $450.00 and the request was expired. Did prosper work for me?
The only way this type of relationship can do well is if the number of lenders far exceeds the number of borrowers. Small very short term loans from MANY people would distribute the risk and allow for more churn.
Prosper has been good for me so far. Apart from the lag in time between when a loan is funded and subsequently verified (Up to 7 days), finally becoming a loan, i’ve found the site to be quite useful. Also, the new Folio note trading platform has allowed me to liquidate assets much faster. Instead of having to wait 36 months for all of the interest and principal payments to be made, I can get out whenever I want, even selling good notes for a premium. I’ve had success and average about 17% return over 39 loans ($5K invested). I’ve only had one charge off and two people currently
Prosper may not be a scam but is an extremely poor investment. I have 9 loans and 5 defaulted. 4 of thoses were A or B rating. What a joke!!
Prosper is a total scam. I have 12 loans and so far 7 have defaulted. All my loans were AA and A and two B ratings. These People are walking away with our money and not one of the defaults have been recovered by collection agencies. This is definitely a joke. Don’t ever get involved in this scam. People walk off with your money and Prosper does nothing about it because they have nothing to lose.