The number of credit inquiries in the last six months on a borrower’s credit report has a strong correlation to the likelihood of loan default. Using this simple filter when investigating loans, an investor is able to make significant improvements in the performance of their loan portfolio.
The number of credit inquiries represents the amount of times a business has requested a borrower’s credit report over the last six months. When an individual is requesting their own credit report, that is considered a soft inquiry and does not affect this number. The number is affected only when a perspective lender requests the borrower’s credit report, which is considered a hard inquiry. However, if the borrower attempts to shop the best rate when buying a car or home, that activity is automatically detected and the multiple inquiries are treated as a single inquiry.
Using LendStats, when looking at all loans issued through Lending Club since 2010, 2.71% of all loans have resulted in default. You can see in the graph below, the dramatic improvement to the default rate when applying a maximum number of inquiry filter of 2, 1 and then 0. Additionally, LendStats shows the overall performance of Lending Club loans where no max filter is set is 7.03% and one with 0 max inquiries is 7.86% ROI, a 0.83% improvement.
According to their public filings, Lending Club limits the number of inquiries a borrower can have on their credit report to qualify for a loan. Borrowers with a high credit score can have a maximum of 8 and those with a score lower than 740 can only have 3. This number is even used to determine the interest rate offered to borrowers.
Performing the same analysis on Prosper data we see similar improvements when adding filters for maximum number of inquiries. Prosper’s unfiltered portfolio of loans has a default rate of 4.58% with rate of return of 9.06%, whereas a portfolio of loans with 0 max inquiries has a default rate of 3.74% and 9.78% ROI, a 0.72% improvement on ROI.
Filtering for max number of inquiries when searching for p2p loans is one of the most basic and effective ways to improve your return on investment. Be sure to include it in your criteria when evaluating loans.