Pricing Microfinance Loans and Loan Guarantees Using Biased Loan Write-off Data

A methodology for pricing microfinance loans and loan guarantees
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This paper discusses how micro loans could be priced using data on loan write-offs. It states that:

  • The Microfinance Information Exchange (MIX) has created an online information exchange containing relevant write-off data for many microfinance institutions (MFIs);
  • However, because this data is self-reported and many MFIs do not report complete information, there is a substantial selection bias in the MIX market sample.

The paper provides a simple methodology for estimating the true distribution of loan returns using only observations that are self-reported by MFIs. It states that estimating true loan return distribution not only allows pricing of loan contracts, but also loan guarantees. The paper concludes that the methodology:

  • Is simple and fast to implement for pricing micro loans and loan guarantees using publicly available data on loan write-offs by MFIs;
  • Takes into account the selection bias inherent in available data - that MFIs that do not report loan write-off data are likely to be poor performers;
  • Can be adapted to cases in which more specific information about a particular MFI is available.

The authors also state that:

  • Their quantitative analysis suggests securitizations in which the upper tranches can be made completely safe;
  • The riskier tranches can be held by informed intermediaries, donors and socially responsible investors;
  • The safer tranches can be marketed to tap commercial investors;
  • This can expand the supply of funds available for microfinance loans multi-fold making it easier to meet the Millennium Development Goals set by the United Nations.

About this Publication

By Chowdhry, B., Cassell, D., Gamett, J., Milkwick, G., Nielsen, D. & Sederstrom, J.