This week's article in Business Week, "Peer-to-Peer Lending Pain" chronicles the initial setbacks suffered by the social lending industry. Too bad that the author only focused on the past problems and didn't discuss at all the emerging improved platforms.
True, Prosper did suffer from a real adverse selection problem when it first opened and did not do nearly enough to screen out bad borrowers. Other social lending sites clearly learned this lesson and have adapted their model.
The author does point out the initial weakness of the p2p model:
Much of the early attention was on the sites' social networking aspects. Borrowers seeking loans of up to $25,000 could post profiles of themselves and their financial situations. Lenders, meanwhile, were ordinary people seeking better returns than those offered by other investments and supposedly could be swayed by personal appeals.
Being "swayed by personal appeals" is never a good investment strategy, whether it's from a family member or a complete stranger on the social lending site. I have little sympathy for Greg Bequette, the focal point of the story, who is expecting a 22% loss on his Prosper investment. Spending $800,000 on a brand new site and only diversifying the portfolio through 173 borrowers seems like a common sense bad investment choice.
At least the article gets one thing right:
If peer-to-peer lending does make a comeback, it's likely to serve only those with sterling credit who are shopping for better rates—and not the majority of entrepreneurs.
This is a natural evolution for the social lending model. Both Lending Club and Pertuity Direct, the two SEC-registered platforms, have implemented stringent borrowing requirements.