Mitigating Adverse Selection in P2P Lending – Empirical Evidence from Prosper.com

Abstract

This paper presents novel empirical evidence on the success of efforts by P2P lending platforms to limit adverse selection using a unique sample of 5,385 credit transactions on the internet platform Prosper.com. The results of our regressions on the probability of a credit bid’s successful funding show that all variables for which a significant influence on the probability of funding success could be found describe information which is verified by Prosper.com. Conversely, all non-verified variables do not possess any significant influence on the dependent variable thus confirming our hypothesis that the screening of potential borrowers is a major instrument in mitigating adverse selection in P2P lending and preventing the online market to collapse. Moreover, we find evidence confirming the proposition that the screening of potential borrowers by groups can help mitigate adverse selection. Group membership, however, does also seem to have a positive influence on the probability of a credit bid expiring, a novel finding of this study.