Popular market analyst Tom Lee of Fundstrat recently called the financial sector his favorite investment for 2025.
The thesis makes sense. After all, inflation is coming down, the yield curve has uninverted, allowing lenders to make better profits on loans, and a deregulatory ethos has come to D.C. Combined with still-low valuations compared with the market, it’s not hard to see why financials may very well outperform in 2025.
Within the financial sector, fintech stocks were hit even harder than traditional financials during the rapid interest rate rise of 2022-2023. Now that interest rates are coming down, these survivors could have the biggest rebound.
LendingClub began as a platform for underwriting unsecured personal loans, which it then sold to retail investors. But over the years, LendingClub became more institutional, targeting creditworthy prime customers and selling its loans to institutions like banks and investment funds. LendingClub also acquired Radius Bank in 2021, which allowed LendingClub to collect deposits and hold loans on its balance sheet.
With the rapid rise in interest rates in 2022, marketplace loan buyers stopped buying loans, forcing LendingClub to pull back on lending and hold more loans on its balance sheet. The stock fell in response and still remains far below all-time highs, trading at just 1.22 times tangible book value.
But now that interest rates have begun to come down, LendingClub is beginning to ramp up lending again.
LendingClub’s stock had run up over the past six months in anticipation of a recovery, but then sold off roughly 20% after the fourth-quarter earnings report. While revenue slightly beat expectations and earnings per share slightly missed, investors were also perhaps expecting more from guidance.
Management projects originations between $1.8 billion and $1.9 billion in Q1, flat from the $1.846 billion in the fourth quarter, which was up just 13% over the prior-year quarter. Analysts were expecting a bigger step up in originations to $2.01 billion. Moreover, management gave an estimate for the fourth quarter of 2025, saying it expects $2.3 billion in originations and to exit the year with an 8% return on tangible equity. Analysts had projected $2.37 billion, and were perhaps expecting a better ROTE.
LendingClub’s prior originations peaked at $3.8 billion in the second quarter of 2022, so the slower ramp-up was perhaps a disappointment.
Making things worse, rival SoFi (NASDAQ: SOFI) originated $5.2 billion in personal loans last quarter, up 63% over the prior year. So, that may have left investors wondering why LendingClub wasn’t growing as quickly.
Still, the market’s reaction seemed overly harsh. LendingClub has a history of guiding conservatively and hasn’t yet turned on its prior marketing channels. In fact, marketing spend was actually down slightly year over year, despite the 13% growth in originations. LendingCLub’s underwriting also appears excellent, with delinquencies and hardships 44% to 50% lower than peers across different tiers of customers.
By contrast, SoFi increased its marketing spending by 31.2%. And while it originated three times the number of personal loans, SoFi’s total marketing spend was actually 10 times higher than LendingClub’s.
On LendingClub’s conference call, CEO Scott Sanborn noted that the company abandoned higher-cost marketing channels such as direct mail over the past few years, since LendingClub couldn’t sell marketplace loans easily. In the downturn, LendingClub focused on engaging prior customers and remaining present in lower-cost channels, such as loan offer aggregators.
Prices for LendingClub loan sales were slightly above par in 2021, but fell to the 96- to 96.5-cents-on-the-dollar range during the downturn. That meant the company couldn’t really afford to invest in these channels. But according to CFO Drew Labonne, with whom I recently spoke, loan sale pricing has improved to about 98 cents on the dollar. That’s still below the 2021 peak, but about where it needs to be to justify reentering the other marketing channels. Moreover, loan prices continue on an upward trajectory.
LendingClub’s highest-origination quarters tend to be the second and third quarters of the year, so the company may be waiting a bit to test the new marketing channels until summer. That explains the deliberate growth outlook.
LendingClub’s closest peer is Sofi, as both companies are essentially hybrid loan marketplaces that also collect deposits and hold some loans like banks. There are, of course, differences, as SoFi is more diversified in terms of revenue.
Between the two, however, LendingClub seems staggeringly cheap. LendingClub trades at 1.2 times tangible book value, whereas SoFi trades at 3.4.
Investors may think the difference is justified, given that SoFi grew revenue 19% last quarter, with adjusted net income attributable to common stockholders growing 148% off a near-breakeven base. Meanwhile, LendingClub’s earnings per share actually decreased about 5% year-over-year.
But there’s a big difference as to how both companies account for their earnings and assets.
When LendingClub makes a loan it intends to hold for the life of the loan, it designates this as a “held-for investment” loan. These loans made up about about 37% of the company’s assets. However, HFI accounting means LendingClub has to take an immediate reserve against all estimated losses over the entire life of the loan. That cost immediately comes out, whereas future interest payments come in later periods. So when held-for-investment loans are growing, earnings won’t show as much growth because of the big up-front provisions.
However, SoFi accounts for all its loans as “held for sale,” even those it may hold for the duration of the loan. In that case, when a loan is made, it’s recorded on the balance sheet at a higher value based on the “fair value” of the loan if it were sold right then. That’s an amount higher than 100 cents on the dollar, and the premium is immediately counted as non-interest income. That method also records the loan at that higher value on the balance sheet, which then amortizes over the life of the loan.
So, SoFi doesn’t have to take upfront provisions against its earnings, whereas LendingClub does. So if you strip out that up-front provision in LendingClub’s income statement, LendingClub’s “pre-provision net revenue” — a good proxy for pre-tax net income — was actually $74.4 million, up 33.7% from last year. And overall top-line revenue was up 17%, not too far from SoFi’s 19% growth.
When one considers SoFi’s revenue was actually helped by a big boost in non-interest income from its aggressive originations growth, where it books a gain right away, the two companies’ growth trajectories look much more similar.
In that light, LendingClub seems like the much bigger bargain, both on an absolute and comparable basis.
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Billy Duberstein and/or his clients have positions in LendingClub. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.
This Fintech Sold Off Hard After Earnings, But It’s Primed For A Big 2025 was originally published by The Motley Fool
