11 tips for successfully investing into p2p lending

11 tips for successfully investing in p2p lending

Remember last time you were in need of money and you borrowed it from someone. Few bucks you can obviously have it from your friends. But maybe you want to refurbish your home, build a barn or wanted to invest in small business and you try to approach a bank for the loan.  But your bank denies loans to small business. So what will you do? The answer is you will wish to go for peer to peer loan which has created a revolution in past years in online lending avenue and also is a great investment for common people benefiting both the borrowers and the lenders. Peer to Peer lending is thus the name given to lending borrowing directly between individuals online without any role of a financial body or intermediary.

There are a number of p2p lending platforms that you will find online like Lending club, Prosper, Ratesetter, Zopa, Assetz Capital . These companies are increasingly lending to individuals as well as to business peer to peer loans. This form of investment has made a recent surge in US ,UK , China, Australia and other countries and offers great opportunities to this type of investment avenue. Lending Club alone has given out over $5 billion of loans. Such companies provide lower interest rates and help people pay off their debt quicker with same consumer protection as banks.

Also you can invest your money in p2p lending  as it benefits both the investor and the borrower. As there is no middle man or banker that means a higher rate of return to you as the investor and a lower rate and fees to the borrower. It also provides diversification of the loan portfolio that you’re invested in. As an example if you invest $10,000 through p2p the loans may be spread across hundreds of borrowers at a time and in such diversification if one or two loans go sour, your portfolio won’t get over.  Also the interest rate you’re receiving is high enough to compensate for the risk of loss. Also you can start with a low investment like with Lending Club or Prosper, with no more than $25

If you are thinking about having your money in the p2p platform, here are the 11 tips for successfully investing into p2p lending

Tip # 1.

Do your homework before investing

Like any other investment modules here too you need to do your homework before investing. This means as a first step you need to understand as how peer to peer lending works. You can start by reading the borrower’s profile and purpose of the loan. Though most of the borrowers might not be sharing much of details about the loan or why they borrowed but do research on debt consolidation and how a borrower plans to repay the loan.

Tip # 2.

Know the type of p2p lending that is good for you

You will find that investing in P2P lending offers many avenues. You need to know whether you want to lend to small businesses,  property entrepreneurs or to consumers.  After your research you need to decide  whether you want to look at higher risk businesses that offer higher interest rates but potentially carry greater risk of default or would you rather play it safe.

These decisions will all influence the type of investment opportunity you  seek out and therefore the peer-to-peer site you choose. Each platform offers a range of different opportunities.

Tip # 3

Choose your p2p platform wisely

Now that you know and understand how p2p works and what it is all about you need to choose your p2p platform wisely. You  need to research and find out about the different platforms to see which offers the type of lending you want. Also see  the type of protections does it cover in the event of a borrower default and how much due diligence does it do on borrowers. You need to know whether it offers a secondary market, whereby investors can ‘sell’ their loans onto someone else and about their charging structure. Always choose the platform that is not much complicated but easy to use and has a good rating and reputation.

Tip # 4

Set up your p2p investing portfolio

Once you are all ready you need to set up your p2p investing portfolio. You open your account with p2p lending online and start with relatively small investment and then gradually build up your peer to peer portfolio. You need to think like an investor rather than a saver which means you need to assume that a borrower may be at default even though the risks are quite low. Hold a range of different opportunities so that you are diversified in terms of borrowers and in terms of sectors. You may also want to vary the duration of your loans – some short-term and some long-term. Some investors will even invest across several peer to peer investing sites.

Tip # 5

Start capitalizing on your investments

The interest payments from your chosen range of borrowers should start coming through within the month, depending on the repayment schedule. Platforms will vary in the speed and efficiency of their income payments, so this is an important test for any peer-to-peer platform. You as an investor can re-lend the proceeds to new borrowers to maximise your return – some platforms have an automatic reinvestment tool – or withdraw the money from the platform to supplement  your income

Tip # 6

Do not secure yourself only on ‘Credit Rating’

P2P lending sites rate borrowers according to their credit. The higher the credit rating (usually on a scale of A to F, with A the highest), the lower the return you can receive.

It is not necessary that you make decisions based solely on credit rating.  In fact you can’t always rely on credit rating to determine whether or not someone will meet their obligations. While creditworthiness should be one of your criteria, don’t assume that good credit is the be all and end all. Someone with B credit might actually be more reliable than someone with A credit, depending on his or her history, as well as what the loan will be used for.

Tip # 7

Take chance with ‘Lower Credit Borrowers’

Since there is a smaller risk of default with someone boasting good credit, you are going to see lower returns The theory, as with any other loan or investment, is that the lower the risk, the lower the interest rate. If you want the potential for higher returns, you need to invest further down the list. When you build your P2P loan portfolio, you need to make sure that you have appropriate diversity. This includes a mix of notes from people with lower credit ratings. Consider your risk tolerance, and then add some notes from people with B, C, D, or E credit. This will boost some of your returns, even as lower-risk loans offer you a bit of stability.

Make sure that you do pay attention to your risk tolerance, though. As with any investment, you need to make sure that you aren’t putting in money that you can’t afford to lose. Even the “safest” of P2P loans comes with the risk of default.

Tip # 8

Reinvest your returns

You need to get more from your portfolio by reinvesting your gains. As borrowers repay their loans, your account grows . If you want to build your portfolio faster, reinvest your returns. Buy more notes with the earnings that you receive from your p2p loan portfolio. This will help you create a larger portfolio that, in turn, offers higher returns over time. Compound earnings can do much for your portfolio and wealth building in the long run and you can actually use P2P loans as part of your income investing strategy.

Tip # 9

Consider keeping p2p loans in ‘Tax-Advantaged Accounts’

You will need to check with your current custodian about whether or not p2p loans are an option for your IRA. If not, you can open a self-directed IRA with a custodian willing to allow you to hold p2p notes. Additionally, some p2p lending sites actually offer IRAs. That makes it a little easier to enjoy tax-deferred or tax-free returns on your p2p investments.
If you live in the United States, you can hold p2p loans in an IRA. This provides you the chance to receive a tax benefit for your investment. You can receive a tax deduction if you keep the money in a Traditional IRA, or your money can grow tax-free when you hold your p2p loans in a Roth IRA.

The CRA allows for debt obligations and mortgages, as well as installment receipts in these accounts, so it makes sense to ask a knowledgeable Canadian financial planner or your account custodian whether or not it’s possible to hold p2p loans in a tax-advantaged account.

Because the interest from p2p loans is taxed at your marginal rate, whether you live in the U.S. or Canada, it makes sense to try and get more for your earnings by using a tax-advantaged account if possible.

Tip # 10

Diversify across the platform

Once you’ve decided your allocation amount, set yield targets based on your risk profile, diversify as much as possible: number of loans, loan types, loan duration, note grades, and even lending platforms. Diversify your portfolio, even if only on one platform, by lending small amounts to as many different borrowers as possible. Some peer to peer lending sites do this automatically, with others it may take a bit of work. In order to minimize defaults, you need to deploy capital in $25 to $50 increments across hundreds of loans

Tip # 11

Go for algorithmic diversification

Algorithmic diversification  means diversification across money managers.  Institutional p2p money managers possess the technology, expertise as well as the algorithms to predict defaults with greater accuracy; thus generating larger returns. This is why a growing number of p2p investors (particularly those new to the industry) are opting to place capital with established p2p money managers. This strategy provides investors with “algorithmic diversification” which can also help enhance returns.

The peer to peer lending market is still evolving and in the growth ladder. You need to keep yourself up to date with the information regarding new platforms, changes in the law, loans strategy and protection. Also keep an eye on new loan offers come up to see if they meet you peer to peer lending and investment criteria.

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