Crowdfunding has received a lot of attention over the past several years. Who doesn’t like the idea of cool products and businesses getting funded by thousands of investors online, but has this medium evolved into a credible investment/ funding vehicle? Some of the biggest names in the game are Lending Club, Prosper, Zopa, Kickstarter, Indiegogo, and AngelList. This concept has also drawn heavy attention from nearly every major news source: Wall Street Journal, The Guardian, Nasdaq, Market Watch, and Forbes.
This strategy was very interesting to me after hearing about the model from a trusted colleague. After exploring the market I settled on trying things out with Lending Club in November 2014. I will detail my experience with them.
To briefly explain how Lending Club works, the investor/lender is able to evaluate loan requests people are submitting and filter using dozens of specific criteria (screenshot below). They are able to invest as little as $25 per selected loan. A second option is to enter into an “Automated Investing” platform facilitated by Lending Club. This option allows Lending Club to invest in loans on your behalf based on the risk profile you’ve set up. The loans offer very competitive returns to investors and are often a good way for borrowers to refinance high-interest balances, such as credit card debt.
There are different “grades” of loans. An “A” grade loan will return around 6% and rates increase all the way to “G” grade loans capping at 28%. The lower the grade of the loan (G is the lowest grade), the higher the payout, but it is also more likely to default. If a loan defaults then the money invested into the loan is lost and Lending Club does not compensate or reimburse the money. In one specific case, I had an E grade loan declare Bankruptcy shortly after issuance, causing me to lose my full $25 investment without receiving a single dime of payment. The primary idea of the platform is to build a diversified portfolio containing hundreds of loans, thus hedging against risk.
With that being said, here is an example of a loan. Notice all of the different factors you can evaluate to see if this is one you’d like to invest in:
I personally prefer to invest in loans with a 700 plus credit score, at least 2 years of employment, a detailed job title (not just a vague “sales” or “manager”), 1 or fewer inquiries in the past 6 months, and no delinquencies. The jury is out on how well all of this criteria works, but my preferences keep me pretty well grounded to A-C grade loans with the occasional D and E grade loan.
I started my experiment with $5,000, although it did take me several months to invest the full amount in loans since I prefer to hand-pick my loans opposed to utilizing the automated service. Over the course of the past year and a half, I have ramped up my account to roughly $8,000.
While there are still questions about Lending Club as an Investment medium, below is a snapshot of my returns and portfolio:
So the question is, how am I doing? Well, unfortunately, not too well. The important thing to consider when picking investments is the risk/reward profile. Treasury Bonds and a Savings Account are extremely safe, but the returns are close to 0, and then there are “investment” like crypto-currencies that are very volatile, yet can deliver tremendous returns.
So where does P2P Lending fall on the spectrum? In my opinion, it’s actually a bit more on the risky side, and there are a few reasons:
- The money is illiquid
- Platforms have little recourse in case of default
- Verification of true borrower identities is questionable
Despite the higher risk, my adjusted returns factoring in defaulted loans is currently at 3.90% (3/21/18). From 2015-2018 the S&P 500 has delivered an 11.72% average return. Based on my current returns and sample size, Lending Club appears to be an inferior vehicle to investing in the S&P. However, I will also note that I have been steadily withdrawing my earnings over the past year or so, so my sample size has slowly been shrinking.
Of course, this is just one opinion, but my advice would be to look elsewhere when looking to invest your hard earned dollars.
However, if you do want to give it a shot with some play money, Lending Club can actually be pretty fun because it allows you to sit on the other side of the table. The majority of the time we are the ones being evaluated, i.e. applying for a loan, interviewing for a job, receiving a performance review, being judged by your friends and neighbors every day. It’s oddly empowering to be the one doing the evaluating for once.
I hope this was enough information to help you decide if peer-to-peer lending is right for you. Let me know your questions and comments.