Continuing our four myths about subprime consumers series, we’ll explore the performance trends of subprime borrowers.
The economy benefits when lenders extend credit to subprime consumers. With credit, consumers with subprime scores can meet their financial needs and build a solid credit history if they handle their payments responsibly. Lenders can also widen their customer base and offer credit prudently to subprime consumers.
But many myths exist about subprime consumers, particularly about their scores and behavior over time. Let’s explore these myths and consider whether they are accurate.
Myth 3: Subprime borrowers have difficulty improving their scores over time.
As subprime consumers open new credit products or loans and meet their payment obligations on time, they build a healthy credit history and essentially move upward in the credit score spectrum over time. Measuring this upward migration is critical for lenders that support healthy credit access and for consumers that benefit from a higher score when they have future credit needs.
To better understand score migration trends, we used Prama to measure subprime consumers who opened a credit card, an auto loan and personal loans in the past five years. Using these insights, wee observed their scores at point of opening these credit products and then measured their scores two years post-origination.
Based on post-origination score migration analysis, we observed that half of subprime consumers who originated cards improved their scores. This observation was rather consistent with auto loan and unsecured personal loan borrowers. In fact, 42% of subprime borrowers who opened an auto loan in 2015 with a national bank improved their scores, while 45% of subprime borrowers who opened a personal loan with a FinTech improved scores two years post-origination.
In a nutshell, lenders have more data available — through quick, visual, self-service insights — to identify those who are likely to improve scores, enabling creditworthy borrowers to avail credit and build their credit history over time. Before solutions such as Prama, it may have taken lenders weeks or months to gain these insights – and even longer to act on them.
Myth 4: Thin-file1 subprime borrowers, who enter the market for their first card or first loan on file, tend to perform significantly worse than those with a thick credit file2.
Borrowers with a thin credit file opening a card or loan product for the first time tend to have less credit history available for lenders to leverage for underwriting purposes.
While the hypothesis is true that thin-file borrowers tend to perform worse than thick-file borrowers (see table above for performance observations), we measured on a vintage basis, leveraging Prama Insights. Using Prama, we discovered that first-time cardholders with a thin credit file are outperforming prior years’ vintages. In fact, this was consistent across the risk spectrum and for private-label cards — which generally are the first card in a consumer’s wallet.
With the widespread adoption of scores that leverage alternative data as well as trended data, lenders are incorporating additional data and advanced analytics in their underwriting models. As a result, they can more accurately score subprime consumers and enable this consumer segment to benefit from credit accessibility.
As lenders and issuers have expanded access to subprime borrowers, they are leveraging alternative data to maintain and/or improve returns by targeting creditworthy borrowers within this consumer segment — demonstrated by improvements in performance highlighted in the graphs above.
Measuring these trends in seconds with Prama, lenders are able to strategize growth in lending for this segment with confidence. And, most importantly, lenders can take action on these insights within Prama’s integrated analytical environment and quickly go from strategy to execution.
Learn how you can understand subprime consumer behavior, identify growth opportunities and improve portfolio profitability with Prama.
1Thin-file borrowers are consumers who have less than 4 trades on file.
2Thick-file borrowers are consumers with more than 4 trades on file.