Croudify Ratings – Framework & Scale


Introduction

Online Lending (Peer 2 Peer & Crowdfunding) has emerged as a great alternative to traditional banks in lending industry over the last decade. They have provided cheaper loans to borrowers by removing the inefficiencies in the lending ecosystem and in process have  created a whole new asset class for investors.  These assets are mostly fixed-income, unsecured consumer loans and can provide great returns if managed properly.

Currently, there is no simple way to analyze these assets and provide ratings that investors can use for efficient investing. The lack of an independent entity in the market for analyzing these instruments for the benefit of investors is hindering the growth of these assets and marketplace.

Croudify is creating a new framework to analyze Unsecured Consumer Loans originated on these online platforms to identify a specific characteristic that is fundamental to a good rating. The rating would evolve along the life of the loan when new information is available that will be uniform across platform and will allow investors to compare these assets with other fixed income assets.


Ratings Distribution

In structured finance a ‘AAA’ rating is assigned when we are 99.99% certain that we will not suffer any loss on a given portfolio (99.97% AA, 99.9% A). To build our individual ratings buckets, we took a similar approach and created a distribution of default probabilities of the entire population to find various percentiles that will correspond to loss ratings. In this distribution the AAA probability on the extreme left shows loans that are better than 99.99 % of the loan population and hence are expected to rarely suffer a loss.


Since the population covers more than 1.5MM loans, we are confident that the trend and analysis  will hold if we add more platforms and more loans to the data.


Croudify Bond Scale Ratings

Distribution Cutoff

Croudify

Bond Scale

Platform

P2P Scale

PD Bucket
Lower Upper

99.99%

AAA NA* 0% 0.03%

99%

AA

0%

0.20%

95%

A

0%

0.42%

90%

BBB

0%

0.62%

85%

BB

0%

0.81%

45%

B

A/B

0%

3.72%

35%

CCC**

B/C

0%

5.09%

20% CC C/D/E/F 0%

8.14%

2.5% C C/D/E/F/G/H 0%

24.00%

0.00%

NR F/G/H 0

100.00%

* – Currently there is no Rating in P2P world that cuts off at such low default rates and hence there is no parallel

** – Any rating in CCC and below is considered a junk status and will be comparable to junk bonds in returns


Ratings Benchmarking

With default rate buckets established to determine the ratings, we did a benchmarking of these against the industry. As discussed earlier, neither S&P or Moody’s provides any kind of quantitative analysis around their rating system and hence we use the historical publicly available data to benchmark our scale.

Standard & Poor’s has published a study*** that has analyzed all default rates of various grades across time. These time periods included periods of economic boom and serious global economic stress, including the 2008 financial crisis and hence they have created two ratios; one for normal times and one for distressed time period. Since the online lending industry has not gone through any distressed period like 2008 yet, we expect the ratings to compare more to the normal time period ratings .


S & P Historical Data Benchmarking

 

Croudify

Bond Scale

S&P Rating Croudify Default Upper limit One Year Global S&P Default Rates (weighted
 long term average 1981 – 2014)
One Year Global S&P Default Rates (Stressed
 — 2008)

AAA

AAA 0.03% 0.00% 0.00%

AA

AA 0.20% 0.02% 0.38%

A

A 0.42% 0.07% 0.39%

BBB

BBB 0.62% 0.20%

0.49%

BB BB 0.81% 0.76%

0.81%

B B 3.72% 3.82%

4.08%

CCC / C CCC/C 5.09% – 24% 25.27%

27.00%

***Default, Transition, and Recovery:  2014 Annual Global Corporate Default Study And Rating Transition