A FUNDING Circle loan portfolio would still deliver returns of close to five per cent in a severe recession, the platform claims.
The peer-to-peer business lender has stress-tested its loan book, using a model similar to what the Prudential Regulation Authority (PRA) uses for banks, to see how two example portfolios would stand up against a severe recession similar to the one in 2007/08.
The platform simulated two example portfolios, one representing an existing investor, comprising all outstanding small business loans in the Funding Circle loanbook as of June 2017, and the other representing a new investor, comprising all small business loans made in the first six months of 2017.
In normal economic times, portfolio A would expect an annual return of 6.7 per cent, while portfolio B would return 6.8 per cent after fees and bad debt.
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Funding Circle then applied the PRA stress test, assuming the default rate would increase by 1.9 times and the recovery rate on defaulted loans would reduce by 40 per cent.
The PRA stress tests also assume economic growth falls 4.7 per cent and unemployment climbs from 4.8 per cent to nine per cent. Inflation also hits 5.1 per cent in this scenario while interest rates hit four per cent.
Even with these assumptions, the projected annual returns after fees and bad debt but before tax were 5.3 per cent for portfolio A, and 4.9 per cent for portfolio B, Funding Circle said.
The platform’s methodology was independently verified by financial consultancy True North Partners.
Jack Pritchett, customer communications manager for Funding Circle, said this shows the platform’s loans could be resilient in times of a severe recession.
“The results of our test assume that in a stressed scenario, Funding Circle would take no action to mitigate losses,” Pritchett said.
“However, we have a number of processes in place to help anticipate and react to worsening economic conditions. In addition to closely monitoring the performance of the loanbook, we also track external macroeconomic conditions to help us identify when a downturn may be approaching. If there were signs that conditions were worsening, we would adjust our credit assessment process to price in some of its effects of on new loans.”