With the secondary market for subprime loans moribund, one lender is experimenting with innovative, nonbank services that could make its debt easier to sell.
The subprime auto lender Consumer Portfolio Services Inc. said the poor economy has driven down its origination and repayment rates. Since last week it has announced plans to participate in initiatives aimed at addressing both concerns: a mobile phone billing service that could make borrowers more likely to pay their bills and a secondary market that lets consumers buy its notes.
Observers said lenders, and especially subprime lenders, are finding it increasingly difficult to resell their loans, and they predicted that financial companies would be interested in any new service that could increase liquidity.
Robert E. Riedl, a senior vice president at CPS and its chief investment officer, said the Irvine, Calif., company's decision to use the services was a pragmatic response to a decline in lending.
In 2007, CPS originated $100 million a month of new contracts; in 2008, it dropped below $20 million, and today it's "quite a bit less," he said in an interview Tuesday. "What's the cliche? 'Necessity is the mother of invention.' "
CPS is the first company to participate in a secondary market for loans that was introduced last week by the peer-to-peer lender Prosper Marketplace Inc. In this arrangement, Prosper users can take over the debt, but CPS will continue to handle the servicing.
Prosper's main business is facilitating loans online between individuals, and it is also developing a system that will let its lenders buy and sell the notes they have funded through its Web site.
Prosper has said that offering consumers the chance to buy loans issued by banks and other traditional lenders could provide an important new source of liquidity. (The secondary market is currently open only to lenders in California, though Prosper plans to take it nationwide once it gets regulatory approval.)
Riedl said liquidity is exactly what CPS needs. Many of the traditional ways to sell his subprime debt have dried up, he said, forcing his company to reevaluate its options. "We have for the last year or so looked at a lot of different ways of funding our originations."
Though several initiatives aim at loosening up the credit markets, Riedl said that his small, subprime auto lender is not the government's top priority. "While government programs seem to be making some progress, clearly there's a long way to go before it makes its way to us," he said. "Prosper is another idea, kind of a fairly cutting-edge idea" that can address his liquidity issues.
A potential hurdle is credit quality. Loans sold through Prosper must be current and borrowers must have made at least three payments. Prosper's lenders tend to favor the creditworthy and may be wary of CPS' subprime loans.
The mobile phone service could address this. CPS said last week it was testing a service from Western Union Co. that delivers invoices, and lets recipients pay them, by text messages.
Marc DeCastro, a research manager at Financial Insights Inc., a unit of International Data Group Inc., said mobile phones could boost collection rates. "People are much more prone to react to something on a mobile message," which is interactive, than to a static invoice sent by mail, he said.
Bobbie Britting, a research director in the consumer lending practice at TowerGroup Inc., an independent research unit of MasterCard Inc., said the mobile service shows that CPS is committed to keeping payments coming in, which could makes its loans attractive to Prosper's users. "You're more likely to find an investor to buy your portfolio if you say to them: 'I've got all these ways of staying in touch with my customer and making it easier for my customer to pay their bill.' "
Britting said subprime lenders are struggling with liquidity. Companies like CPS "really have nowhere to go to sell their loan portfolios to get new money to make new loans," she said.
Though CPS is the first to explore these new services, she expects others will follow suit. "Companies are absolutely starting to do a lot more in that area," she said.