Upstart Shares Fall 94% As End Of Stimulus Pulls The Curtain Out From Under Fintech Lenders

Personal lender UpstartESTABLISHMENT
are feeling the pressure as the rate of missed payments on their loans increases sharply after the end of stimulus programs. The Silicon Valley company specializes in personal loans that finance expenses such as credit card debt consolidation, weddings and home repairs. Upstart advertises that its artificial intelligence-based insurance expands access to credit by looking at more than a borrower’s FICO score, and it has received praise from the Consumer Financial Protection Bureau for doing so. But with inflation and interest rates rising sharply, this is the first time Upstart’s model has been put to the test during a true economic downturn.

During the Covid-19 pandemic, low interest rates enabled fintechs like Upstart to lend money to consumers at competitive rates with little risk of default as borrowers collected stimulus checks. Now rising interest rates and the end of government support programs are cutting into Upstart’s bottom line. The stimulus programs came to a halt in September after increased unemployment benefits ended. The default rate, the percentage of loans that have late payments, on Upstart loans originating in 2021 is approaching 7%, compared with less than 3% for loans issued the year before, data from credit rating agency KBRA shows. The upstart’s stock has fallen 94% since its peak in October 2021, while the broader market for publicly traded fintechs is down 55%. Upstart declined to comment because of the “quiet period” before its next financial results report.

While analysts say the rising default rates are a normalization after stimulus payments reduced the risk of late payments, some have been hit by the steep correction. “I don’t think we’re at the point yet where delinquency rates or delinquency rates are above pre-COVID levels, but with that feedback, it’s not the levels as much as the rate of change, which has been surprising,” Citi analyst Peter Christiansen said.

Acting as an intermediary between bank partners and borrowers, Upstart makes money by packaging loans and selling them to third-party investors for a fee. Upstart CFOCFO
Sanjay Datta said on the company’s first-quarter earnings call that in some cases default rates had surpassed pre-pandemic levels. Rising default rates, a leading indicator of defaults, have shaken investor confidence in Upstart loans, making it harder for the company to find investors, analysts say.

In 2021, this forced Upstart to keep the loans, which surprised shareholders. In the first quarter of 2022, Upstart had $598 million worth of loans on its balance sheet, up from $252 million in the fourth quarter of 2021. Earlier this month, Upstart said in a press release that its loan marketplace was “funding-constrained, largely driven by concerns about the macroeconomics among lenders and capital market participants.”

For the second quarter, Upstart’s revenue was $228 million, $77 million below what the company had previously forecast, with an estimated net loss of about $30 million. Part of the bump in second-quarter earnings came from Upstart selling the loans it had on its balance sheet to other lenders, in some cases at a loss, instead of the usual practice of bundling them into asset-backed securities. In addition to these sales, Upstart had a lower loan volume in the second quarter, which cut into income.

The reduced volume may be a result of rising interest rates and tightened loan standards from Upstart or the partner banks. In a batch of loans sold to investors as of 2022, 30% of borrowers had FICO scores lower than 619 (scores range from 300 to 850, with the average American at about 715). Between 2017 and 2021, Upstart focused on providing loans to borrowers with lower FICO scores. But as losses mount with higher default rates, Upstart appears to be tightening its lending standards to reduce losses. In a recent round of loans from 2022, only 24% of borrowers had FICO scores below 619. Ultimately, Upstart is only able to lend according to the risk tolerance of its partner banks.

“No matter what AI model you have, you’re ultimately at the mercy of how much capital you can use in a given period, and the risk tolerance behind that capital,” Christiansen said.