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Cruising Down the Credit Curve

Funding Circle has today announced that it is introducing a new risk band at the bottom end of its borrower credit quality spectrum, band E. It will also rename risk band C- to D. This will take the total number of risk bands up to 6. The current five risk bands have been in place since the C- (now D) band was added in July 2013.

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The minimum bid rate for E rated loans will be 18.2% and the platform estimates that these loans will suffer a whopping 8.0% annual bad debt rate (see table below for full breakdown of the risk band returns). This still gives investors a 9.2% estimated return after Funding Circle’s 1% fee.

In their blog post about the new risk band, Funding Circle tell us that this is a natural step and the platfrom will use what it has learnt by tracking businesses that the platform has declined (but presumably could have fallen into the E risk band) to estimate the risk of the E band businesses.


Risk Band Minimum bid, estimated loss and estimated return rates. (source: Funding Circle)

The new credit band will make Funding Circle accessible to even more of Britain's small businesses, although not all - the expected average Delphi score for the E band is 62, well above the UK average of 45. At the moment at AltFi we continually hear that borrower origination, rather than the availability of investor funds, is the factor limiting growth of the larger platforms. Opening up the Funding Circle platform to a wider range of companies will likely boost volume.

One must applaud Funding Circle for giving investors more choice, but whether loans within the new risk band prove to be a good investment or not remains to be seen. Funding Circle’s comments about the companies in this band having lower profits certainly highlights their exposure to slight changes in the business environment and the overall economy. This is definitely not a risk band for the faint hearted. With the high expected loss rates, the change in tax rules that was announced at the last budget that enabled capital losses to be offset against income will be very timely.

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