LendingClub's Sanborn on the State of Consumer Credit

Key Concepts

• Middle Majority Customer Base: High-income individuals who are heavy users of credit but may not have extensive access to it.
• Credit-Centric Bank: A financial institution that focuses on credit products and services.
• Marketplace Investors: Investors who participate in a marketplace, often by purchasing loans.
• Balance Sheet: A company's assets, liabilities, and equity at a specific point in time.
• Loan Origination: The process of creating a new loan.
• Delinquencies: Failure to make loan payments on time.
• Roll Rates: The percentage of loans that transition from one delinquency status to a worse one.
• Recovery Rates: The percentage of a loan's value that is recovered after default.
• Prepayments: Paying off a loan earlier than scheduled.
• Fraud: Deceptive practices to gain financial advantage.
• Credit Card Refinancing: Consolidating high-interest credit card debt into a lower-interest loan.
• Personal Loans: Unsecured loans that can be used for various purposes.
• Purchase Finance: Loans provided to consumers to finance specific purchases.
• Home Improvement Loans: Loans specifically for renovating or improving a home.
• Use of Proceeds: The intended purpose for which loan funds are used.
• FICO Score: A credit score used by lenders to assess credit risk.
• Utilization Rate: The amount of credit used compared to the total available credit.
• CARD Act: The Credit Card Accountability Responsibility and Disclosure Act of 2009, which introduced consumer protections for credit card users.

Lending Club's Customer Focus and Credit Strategy

Lending Club primarily serves a customer segment they refer to as the "middle majority." This group is characterized by high incomes and significant reliance on credit to finance major life expenses such as purchasing vehicles or funding education. While they have the financial capacity to afford these items, they utilize credit to do so. This demographic represents approximately one-third of the U.S. population but accounts for nearly half of the total credit wallet. They are more likely than the average consumer to hold various forms of credit, with loan amounts (excluding mortgages) also being larger than average. The average income for this group is around $125,000, with a range of $80,000 to $200,000 in individual income where Lending Club particularly overindexes.

The Role of the Balance Sheet in Lending Club's Operations

A significant development for Lending Club was the acquisition of a bank in 2021, which allowed them to begin holding a portion of their originated loans on their balance sheet. This strategic move has resulted in a more robust and resilient earnings profile and has enabled innovation through the use of their balance sheet. By holding loans, Lending Club aligns its interests with loan buyers, as they are the largest holder of their own originated loans. This "eating our own cooking" approach fosters a deep commitment to credit performance.

The balance sheet provides a crucial platform for testing new initiatives. Lending Club can pilot new strategies, such as longer loan durations, larger loan sizes, or novel marketing channels, on their own balance sheet first. This allows them to rigorously evaluate performance and ensure it meets expectations before releasing these innovations to the broader marketplace. This capability is a distinct advantage over entities without a balance sheet.

The impact of this strategy is evident in Lending Club's credit performance metrics, which consistently outperform industry averages. These include lower delinquencies (30-40% below industry benchmarks), lower roll rates, higher recovery rates, lower prepayments, and reduced fraud.

Continuous Testing and Performance Management

Despite consistently strong results, Lending Club emphasizes that this stability is the result of extensive behind-the-scenes work. At any given time, they are conducting over 200 tests in the market, evaluating various aspects like pricing and credit adjustments. This continuous process of evaluation and adaptation allows them to remain responsive to evolving consumer behaviors and economic conditions, thereby maintaining their consistent performance. This indicates a highly selective approach to lending.

Lending Club's Selection Process and Key Use Cases

Lending Club is highly selective in choosing who to lend to, focusing on individuals who fit their target profile and for whom they can deliver a superior pricing and product experience. A key aspect of their selection process involves controlling the use of loan proceeds. For instance, if a borrower requests funds for braces, Lending Club prefers to pay the orthodontist directly to ensure the funds are used as intended.

The primary use case for Lending Club loans is credit card refinancing. This addresses the significant issue of over half of Americans carrying credit card debt, often at high interest rates (around 23%). Lending Club offers a solution that takes less than five minutes to apply for, promises savings of approximately 700 basis points, and directly pays off existing credit cards. This direct payment mechanism provides assurance that the debt is being retired, rather than the borrower simply taking out more funds. The benefits for the borrower include consolidated billing and a typical increase in their FICO score by 30-35 points due to reduced credit utilization.

Understanding High Credit Card Interest Rates

The discussion touches upon the surprisingly high interest rates on credit cards. The primary reason cited is that consumers do not typically choose credit cards based on interest rates. Instead, factors like rewards programs (e.g., SkyMiles) or store-specific cards are prioritized. Many consumers do not revolve balances on their cards and are primarily collecting rewards. However, the cost of these rewards is borne by those who do carry balances. Research indicates that a significant portion of credit card holders are unaware of their actual interest rates, with more than half of those who believe they know their rate being incorrect. The CARD Act, while limiting how much rates can be increased at once, has led card issuers to factor in higher baseline rates.

Growth Strategy and Future Expansion

Lending Club has outlined ambitious medium-term expectations, including doubling loan originations to $18-20 billion annually. Key levers for achieving this growth include:

• Credit Card Refinancing: This remains the dominant use case, accounting for approximately 80% of their business. The market for high-interest credit card debt is substantial ($1.3 trillion in balances). Lending Club had previously scaled back marketing efforts during periods of rate and inflationary shifts but is now re-engaging with these channels.
• Personal Loans: These loans offer flexibility for various needs and were historically the primary way consumers accessed credit for everyday expenses before the widespread adoption of credit cards.
• Major Purchase Finance: This segment is experiencing rapid growth (over 50% year-on-year) and supports financing for elective medical procedures (e.g., Lasik, fertility treatments, dental implants), private school education, and other needs not covered by insurance.
• Home Improvement: This is identified as a strategic adjacency. With a large percentage of homeowners having low mortgage rates (under 5%), they are likely to stay in their homes longer, necessitating investment in home improvements as homes age. Lending Club plans to facilitate this through unsecured loans, with the capability to control the use of proceeds by paying suppliers or contractors directly. An acquisition has been made to enable phased disbursements to multiple parties for home improvement projects.

Consumer Resilience

Despite prevailing negative sentiment, the consumer segment served by Lending Club has demonstrated remarkable resilience in their ability to repay loans.