Prosper
Online peer-to-peer loan marketplace Individuals ("borrowers") ask to borrow money . For a new car : For a motorbike To consolidate other loans To build a swimming pool Other individuals ("lenders") lend them money A single borrower is matched with many lenders
Login Loan ratings Lenders can choose which loans to invest in Prosper sets the rates on the loans :What rates does it set? (What is Prosper's goal?) Yield versus expected return For high risk loans Yield is higher (okay...) : Expected return is also higher (wait a minute!)
What?
Expected return on: AA-B: 4.8% : ALL: 5.15% D-HR: 5.4% If I invest $1 in the D-HR bucket, how much am I promised back? How much can I expect to get back?
Consider 2 bonds
Bond HR Supposed to pay $100 in one month Actually pays anywhere between 50 and 100 :Expected to pay $75 What is the max possible return? The min possible return? Bond AA Supposed to pay $75 in one month, and always pays $75 Suppose you're willing to pay $70 for bond AA What is the YTM on such bonds? What is the expected return you need from such bonds?
How much would you be willing to pay for bond HR? What is the YTM on such bonds? What is the expected return you need from such bonds?
If:
You can invest in many bonds Each bond behaves independently of all the rest Then: You'd be willing to pay almost as much for bond HR as for bond AA Why? The risk almost vanishes See Excel
But if:
Then investing in bond HR (even 10,000 bond HRs) is much more risky than investing in bond AA Given that, in Prosper, the expected return on bond HR is higher than on bond AA, which of these two situations is more likely? What is the common factor affecting when people default on suc