You’ve probably heard me say it more than once – I’m tired of the stock market! There’s entirely too much volatility, no good way of predicting futures, and no real recourse if the market crashes, other than the famed “wait and hold” strategy. “Strategy.” I hardly call that a real strategy…
Before going too far on this blog post, I’ve written another one with some updates on what I’ve found over time. Be sure to read that one here!
One thing that came up recently was the idea of peer-to-peer lending. The concept is that borrowers who need a loan don’t necessarily have to go to the bank for that loan. In many cases, the banks won’t give them a loan for a variety of reasons. Credit cards are an easy, but VERY expensive alternative. So when people need money and can’t get it, they can now turn to their peers (investors like you and me) for a loan.
This allows borrowers to submit for a loan and investors fund the loans. In most cases, you have to contribute a minimum of $25 and can contribute as much as you want. Once the loan is fully funded by investors, the borrower gets the money and starts making payments, just like a regular loan.
So, what’s the advantage over stocks or even bank accounts? ROI. Yeah, I’ll use the technical term here. As an investor, the loans you contribute to range anywhere from about 6% to 25%. The “safer” loans have a lower interest rate and the “riskier” ones have a higher interest rate. It’s pretty linear too, which is helpful. More risk? More returns. Less risk? Lower returns. Ba da bing ba da boom.
Ok, so what’s the deal? Why isn’t everyone in this? 25% sounds awesome! Well yes and no. 25% is the riskiest loan, meaning the borrower may default, declare bankruptcy, etc, and you’ll be left with nothing. So there’s that. But really, that’s pretty much the only downside, and there’s a lot of things we can do to avoid that. Oh, and only about 30 states out there currently allow P2P funding. And Alabama (where I live) isn’t one of them. So I’m really super stuck. ***SEE UPDATE 3 BELOW!!***
But! Because this looks like a solid option, I wanted to document my thoughts on it. There is currently an option to buy other lender’s notes for those who live in states that don’t allow normal P2P investing. So that may be an option, but the best case scenario is when good ole Alabama gets on the bandwagon!
Ok, so even though I can’t personally invest (yet), I’m still able to sort through the loan options, and there’s a number of things to keep in mind when selecting what loans to invest in.
- Invest the minimum in each loan. There are a ton of loan options out there, so don’t put all your eggs in one basket! It’s better to have 80 $25 notes than 1 $2000 note. Spread the love.
- Diversify the riskiness of the loan. Some of you may be a lot more aggressive and want the higher percentage, high risk loan. Great, but be careful! I’d recommend investing in some quality loans and dabble in the riskier ones rather than the other way around.
- Be careful what loans you pick. On each loan, you’re able to view some basic characteristics of each borrower. Things like their credit score, the amount of the loan they’re after, the purpose of the loan, loan term, monthly income, number of years at their current job, and so on. These are my personal recommendations. Do with them as you wish! 🙂
- Credit score – I’d prefer above 680, 700 would be even better
- Amount of the loan – Under $20k as anything bigger than this can have a pretty hefty monthly fee which some people may have trouble keeping up with (default alert!)
- Purpose of the loan:
Debt consolidation, credit card consolidation, home improvement, mortgage, car loans, business, and major purchases
Meh… Vacation, taxes, and household expenses
No way! Debt consolidation, credit card consolidation, medical
- Loan term – I’d prefer to stick with a 3 year loan rather than the 5 year ones. Mainly so you can have a little more liquidity to your investment.
- Monthly income – this determines how much the person makes, and therefore how much loan they could afford. Someone making $2k a month ($24k a year) and asking for a $35k loan? No way in the world. But someone making $8k a month an asking for a $10k loan? Absolutely. Usually they’ll also show you the monthly payment for the loan. That should ideally be in the 10-15% of their monthly income range, and certainly not over 25%.
- Number of years at their current job – I’d prefer at least 2 if not 5. (2 for safer ones, 5 for riskier ones). This indicates they likely have a steady job they can use to pay back their loan.
So hopefully that will guide you into the less risky loans and earns you a better return on your money! As always, remember there is inherent risk. We can minimize it as much as possible, but it’s still going to be there. Fortunately the SEC (that’s the Securities and Exchange Commission, not the Southeastern Conference) has heightened the rules a bit and defaults have dropped very low. As in 99.5% or even 99.9% don’t default. Pretty good compared to the stock market… None of these loans are security-backed though. In other words, if they don’t pay, you can’t go take the house or car (like a mortgage or car loan). So that’s the risk, but the rewards are pretty good.
Oh, one last question – Lending Club or Prosper? Well… both! If you’re able, for the sake of diversification, it would be better to have an account in each one. Lending Club has a pretty good web interface, but honestly each one works well.
Just got an email back from Lending Club! Sounds like they’re working hard on AL and hope to have it available in the next couple of months!
We are working to make Lending Club available to investors in Alabama in the coming months.
As you may know, Lending Club only recently became a publicly traded company. As a result, will soon be able to offer residents of Alabama the opportunity to purchase Notes directly on the Lending Club platform.
Many people assume that becoming a public company means our Notes will automatically be available to investors in all states. It is not actually automatic; there is a process to introduce Lending Club Notes to new states that involves enhancing our platform, technology, and operations. We plan to begin the process to introduce Lending Club Notes to Alabama soon.
If you open an investing account with Lending Club, our system will record your email address and we’ll be sure to let you know when Notes are available to purchase from the Lending Club platform in your state.
In the meantime, as a resident of Alabama, you may be able to purchase Lending Club Notes from current Note holders who wish to sell them on the secondary market. A platform for trading these Notes is offered by Folio Investing, a registered broker-dealer. You may wish to explore the opportunities available through Folio Investing after you register with Lending Club.
We hope this information is helpful and we look forward to welcoming residents of Alabama as investors on the Lending Club platform in the coming months. Please let us know if we can be of further assistance.
So there’s another option besides buying notes directly, and that’s Folio Trading. You can easily apply for a Folio account on the Lending Club site. It takes a few days to get approved, but I did and have started trading notes! To see the full writeup on that, go to my other blog post, P2P Lending – I Did It!
IT’S OPEN! Ok, by “open”, I mean traditional P2P lending is open to those of us living in Alabama. I just got an email on November 20, 2015 that Alabama has finally gotten on board and is open to P2P lending with Lending Club. Just to confirm, I went ahead and placed an order, and it appeared to go through. Super excited about it!
If you happen to want an invite code, leave a comment below and I can send you an invite. 🙂