Warning about P2P Lending [Peer-to-Peer]

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RenoJay
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Warning about P2P Lending [Peer-to-Peer]

Post by RenoJay » Tue Feb 18, 2014 9:47 pm

Hi All,

About two years ago I was one of the big proponents on this board for P2P lending through LendingClub and Prosper. I just want to post a caution that I've changed my tune 180 degrees. Starting about eight or nine months ago, I noticed the monthly interest collected was rapidly dwindling to the point where, annualized, it was massively below their advertised expected rates. (Now the run rate is perhaps 3-5% from what I can tell.) What I think happened is that demand for their loans skyrocketed due to institutional investors jumping on board. I think this had two effects: 1) The institutional money was likely given access to the better loans, thereby leaving the scraps for individual investors, 2) I think these marketplaces expanded their underwriting criteria and let in more marginal borrowers. In any case, I'm in the process of getting all my money out. I'll still do relatively well overall (probably 5% - 7% lifetime average return by the time my money is out), but I certainly would not add money at this point.

On another note, I had also put some posts about hard money collateral-backed lending. I've done about eight or nine of these loans, and thus far every single payment has arrived as expected and on time. I guess there's a difference in borrowers' minds of knowing their credit score could be hurt vs. knowing their home could be taken. I'll continue with the collateral-backed lending, but will not do any more unsecured lending.

Anyway, just thought I'd report the facts as I see them in case anyone is considering P2P lending.

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Re: Warning about P2P Lending

Post by LadyGeek » Tue Feb 18, 2014 9:50 pm

This thread is now in the Personal Finance (Not Investing) forum (loans).

Update: See below. This thread is now in the Investing - Theory, News & General forum (investing).
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Re: Warning about P2P Lending [Peer-to-Peer]

Post by linuxizer » Tue Feb 18, 2014 9:57 pm

Regulators made my choice to discontinue Prosper lending about a year after Prosper first started, but I suspected as soon as I heard institutional investors getting on board that the party was up. I just about broke even, but for a high-risk asset taking place right through the big crash, that was pretty good, and supported the idea that this was an alternative asset class being traded fairly inefficiently with its own dynamics (and therefore fairly low correlation).

LG--precisely for that reason, I think this is more an investing topic than personal finance, but either forum will probably get it good answers.

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by LadyGeek » Tue Feb 18, 2014 10:14 pm

linuxizer - The OP originally had it under investing. I'll side with the majority and put it back to investing (where it will stay).
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Re: Warning about P2P Lending [Peer-to-Peer]

Post by linuxizer » Tue Feb 18, 2014 10:17 pm

LadyGeek wrote:linuxizer - The OP originally had it under investing. I'll side with the majority and put it back to investing (where it will stay).
I think there's an argument either way--but that's why I'm an academic :-)

Thanks as always for all your devoted moderating.

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by 3CT_Paddler » Tue Feb 18, 2014 10:33 pm

Thanks for the update RenoJay!

It seems like a good lesson on how market inefficiencies can evaporate relatively quickly if enough capital has access to that market.

It seems to me like there is a significant amount of potential risk when the next recession/crisis hits. I suspect many of the people getting these loans would be hard hit by a recession, and defaults would rise significantly. That is exactly what happened to many of the P2P lenders in 2007...

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by White Coat Investor » Wed Feb 19, 2014 4:26 am

RenoJay wrote:Hi All,

About two years ago I was one of the big proponents on this board for P2P lending through LendingClub and Prosper. I just want to post a caution that I've changed my tune 180 degrees. Starting about eight or nine months ago, I noticed the monthly interest collected was rapidly dwindling to the point where, annualized, it was massively below their advertised expected rates. (Now the run rate is perhaps 3-5% from what I can tell.) What I think happened is that demand for their loans skyrocketed due to institutional investors jumping on board. I think this had two effects: 1) The institutional money was likely given access to the better loans, thereby leaving the scraps for individual investors, 2) I think these marketplaces expanded their underwriting criteria and let in more marginal borrowers. In any case, I'm in the process of getting all my money out. I'll still do relatively well overall (probably 5% - 7% lifetime average return by the time my money is out), but I certainly would not add money at this point.

On another note, I had also put some posts about hard money collateral-backed lending. I've done about eight or nine of these loans, and thus far every single payment has arrived as expected and on time. I guess there's a difference in borrowers' minds of knowing their credit score could be hurt vs. knowing their home could be taken. I'll continue with the collateral-backed lending, but will not do any more unsecured lending.

Anyway, just thought I'd report the facts as I see them in case anyone is considering P2P lending.
I'm not sure what a "run rate" is, but if it is your return, then I can see why you wouldn't want to take this kind of risk for 3-5% per year. To provide a counter point, I'm still making 13%+ with Lending Club, 2 1/2 years into my "experiment." The arrival of the institutional investors definitely made it harder to get the good loans, but if you automate the process it's still doable.

Anyone who ever believed the advertised rates without XIRRing their own returns was just fooling themselves anyway.
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Re: Warning about P2P Lending [Peer-to-Peer]

Post by denovo » Wed Feb 19, 2014 5:52 am

RenoJay wrote:Hi All,

About two years ago I was one of the big proponents on this board for P2P lending through LendingClub and Prosper. I just want to post a caution that I've changed my tune 180 degrees. Starting about eight or nine months ago, I noticed the monthly interest collected was rapidly dwindling to the point where, annualized, it was massively below their advertised expected rates. (Now the run rate is perhaps 3-5% from what I can tell.) What I think happened is that demand for their loans skyrocketed due to institutional investors jumping on board. I think this had two effects: 1) The institutional money was likely given access to the better loans, thereby leaving the scraps for individual investors, 2) I think these marketplaces expanded their underwriting criteria and let in more marginal borrowers. In any case, I'm in the process of getting all my money out. I'll still do relatively well overall (probably 5% - 7% lifetime average return by the time my money is out), but I certainly would not add money at this point.

On another note, I had also put some posts about hard money collateral-backed lending. I've done about eight or nine of these loans, and thus far every single payment has arrived as expected and on time. I guess there's a difference in borrowers' minds of knowing their credit score could be hurt vs. knowing their home could be taken. I'll continue with the collateral-backed lending, but will not do any more unsecured lending.

Anyway, just thought I'd report the facts as I see them in case anyone is considering P2P lending.
Thanks for the update. It's always great when investors provide candid advice based on their experiences even if it involves them changing their mind. I am sure you've already considered this, but my concern with collateral-backed lending is as follows. Only when the tide goes out do you discover who's been swimming naked- Buffett. When the next recession hits, and we usually get one every 7-8 years or so, I would like to know what happens to these borrowers.
"Don't trust everything you read on the Internet"- Abraham Lincoln

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Just an observation

Post by jimb_fromATL » Wed Feb 19, 2014 8:37 am

Since I do not and will not ever have any experience as a P2P lender, this is just a personal opinion. However, I’m continually amazed at how many otherwise seemingly rational people appear to develop a blind-spot in order to believe that P2P lenders like Prosper can get great returns by lending money to borrowers who are such bad prospective customers that conventional banks and other commercial lenders won’t touch them with somebody else’s 10-foot pole.

For several years now, the average returns for P2P lending I’ve seen posted on several different talk forums and a lot of websites seem to be in the range of 9% to 10%, with up to 13% or a little more for higher-risk loans. But closer scrutiny seems to suggest that the people bragging about their returns usually appear to be counting only the loans that are paid as promised and not counting the ones that default.

One article that seems to be advocating P2P lending even talks of statistics for about 14.5% of Prosper loans being expected to default.

The title of An e-book on the subject mentions 10% returns.

This writer discusses returns in the range of 13% to 14% in 2013.

For comparison with more conventional investments, through 2013 VFINX (Vanguard's S&P 500 index fund) returned 32.18% for 1 year and had a CAGR of 23.7% for 2 years; 16% for 3 years; and 17.8% for 5 years.

While P2P lending is probably a lot better bet for most folks than investing in lottery tickets or taking your money to a casino, it seems to me that the main difference in investing in VFINX or any other mutual fund --other than receiving considerably higher returns than P2P lending for the last 5 years-- is that if a P2P borrower defaults, which has a high probability of happening, your money is gone forever.

On the other hand, if the stock market crashes and you have your money diversified in perhaps 500 stocks and maybe a balance of some more stable value funds, all you really have to do is wait a couple of years and you'll get your money back and eventually will still have a good long term gain ... if the entire history of the stock market is any indicator at all.

jimb

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by nayr8099 » Wed Feb 19, 2014 9:01 am

RenoJay, thanks for sharing your experience. I would be interested in hearing more information like the number of notes you had, loan grades, weighted average interest rate etc. There are a lot of factors that play a role in p2p lending and those who are getting 8-10% returns once notes are seasoned. Yes, institutional investors have changed the way retail investors have to invest and auto-invest is becoming a requirement as time goes on. (see http://peersociallending.com/news/peer- ... ding-club/)

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by RenoJay » Wed Feb 19, 2014 10:02 am

nayr8099 wrote:RenoJay, thanks for sharing your experience. I would be interested in hearing more information like the number of notes you had, loan grades, weighted average interest rate etc. There are a lot of factors that play a role in p2p lending and those who are getting 8-10% returns once notes are seasoned. Yes, institutional investors have changed the way retail investors have to invest and auto-invest is becoming a requirement as time goes on. (see http://peersociallending.com/news/peer- ... ding-club/)
Probably the easiest to share is my Prosper experience. I had around $50k in Prosper with $25 notes, so that's around 2,000 notes. The interest was all automatically reinvested into a mix of loans selected by Prosper which spanned various credit ranges and categories. The first full calendar year this mix earned about 12%. The next full calendar year is earned around 7%. In recent months, it was earning what would be an extrapolated 4-6%. (This is what I meant by run rate.) With LendingClub, I was taking money out, letting it sit for a while, etc. so it's much harder to calculate returns. In the LC case, I was choosing the loans myself based on criteria which, according to LendStats, made me believe I had a change at better than average returns. Though I don't have clean numbers to share, LC itself is showing a seasoned return of just under 7% currently, and I don't believe their reporting. (I think it skews too high.) As notes pay off, I've been taking the money out. Overall, I don't regret the experience...I still expect to come out positive and this was a test with a small slice of the portfolio. Regarding the note about not knowing who's swimming naked while the tide is still in on my collateral-backed lending, I totally agree. The difference is that my return is not necessarily based on the borrower's willingness/ability to pay. It's based on the value of the underlying asset, and in each case I'm pretty careful (I think I'm pretty careful) to ensure there's lot of equity, above and beyond the loan amount, in the asset when I make the loan. Anyway, it's not easy to come here and admit how bad I did, but hopefully I can provide some caution to at least one person who would otherwise have gotten caught up in the advertising for the P2P marketplaces.

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by ekphora » Wed Feb 19, 2014 1:59 pm

RenoJay wrote:There are a lot of factors that play a role in p2p lending and those who are getting 8-10% returns once notes are seasoned. Yes, institutional investors have changed the way retail investors have to invest and auto-invest is becoming a requirement as time goes on. (see http://peersociallending.com/news/peer- ... ding-club/)
I'm in my third year of investing with LC. It's a small investment (~$20k) mostly in $25 increments. My ROI has dipped from 17.3% at the end of my first year to ~13.5% in 2013 (using Nickel Steamroller to calculate ROI adjusting for past due notes). My portfolio is quite mature now, but newer loans are holding to a pretty similar pattern as my older ones. I did not use any auto-picker, but created a set of filters and picked notes manually with a nerded out excel...probably 1-2 hours of time each month after the initial bolus was complete.

There is a cottage industry springing up around picking loans. I've recently been using P2P picks (https://www.p2p-picks.com/) and find it to be pretty easy to use as an individual investor. Have a small cohort study going to see if P2P runs better than my filters. I suggest interested readers check out lendacademy.com. Peter is very transparent about his investment returns and has data over several years.

I think the mistake people make is treating this in accordance with the Bogle-ish principle of broad diversification (and relative agnosticism to the individual borrower). There are too few borrowers using these platforms for investors to really benefit from diversification. You either have to treat each loan as a risky decision to lend money to your slightly unreliable cousin or be satisfied with average returns in the 3-5% range (which is not fair compensation for the risk taken).

More broadly, investors should wrestle with the question of whether they are being adequately rewarded for the risk they are taking....these are very risky investments because you're essentially being asked to perform the role of a bank's credit team for each loan. I feel pretty good about this trade-off right now, but would exit the moment I feel that I am not.

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by deikel » Wed Feb 19, 2014 2:23 pm

For what its worth, I am in P to P with 10k for only a short time now, but if you actually read the fine print available on both prosper and lending club websites you will see three pieces of info that are note worthy:

a) default rates will increase in later years of the respective loan (meaning people borrowing through PtoP are able to keep their obligation in th efirst 12-15 months, but start defaulting more often later on) - so your observation of issues later into the experiment seem somewhat normal

b) on Prosper you can see a graph of actual realized return depending on credit category. They cover the years from 07 to 10 if I recall correctly and you see that people doing PtoP during the recession only got about 2% out if they had the best category A loans, B turned about 0 and starting C people lost money

c) the samish analysis is done on lending club, however there the data shown is covering post recession years and looks much more promising with some return all they way to C grades - but note that this data is in no way supporting either companies marketing claims of: ' return is loan APR - minus processing fee - typical default value'.

It takes a while to find the right website with this data (I have to find it again to post the links).

IMO, the typical default value is a fudge factor and the given fudge factor is unrealisticly low. This would be my main critisism of both sites actually. The way they present the process looks mathematical ('just substract the known default value and its all a no brainer') - but I dont think its that simple, there is risk beyond that and its not stated clearly enough.

Having said all that, I am in 10k with a projected return of 10%. If it gives a return of 5% than I am happy since my savings account only gives me 1% - so no complain and we will see where we are in 3 years.

IMO, this is an interesting financial product that has appeal vs say a CD in terms of both return and accessability of the cash (since it flows back monthly) - its just a differen type of financial vehicle.
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Re: Warning about P2P Lending [Peer-to-Peer]

Post by RenoJay » Wed Feb 19, 2014 6:53 pm

ekphora wrote:
RenoJay wrote:I think the mistake people make is treating this in accordance with the Bogle-ish principle of broad diversification (and relative agnosticism to the individual borrower). There are too few borrowers using these platforms for investors to really benefit from diversification. You either have to treat each loan as a risky decision to lend money to your slightly unreliable cousin or be satisfied with average returns in the 3-5% range (which is not fair compensation for the risk taken)..
You're absolutely correct with this statement. However, I had, at the peak, about $250k in P2P. If it took you a couple hours a month to place your loans, it would have taken my 10x as long, which is not a good return on my time. Instead, I'd rather loan $250k against a property worth $450k, get a fixed rate of 9% - 10% and be done with it. (Which is pretty much what the collateral-backed lending I've done looks like.)

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by chw » Thu Feb 20, 2014 6:37 am

I've had mainly positive experience with LC the past 4 years, with average returns of 10.50% on an aged portfolio. However I'm no longer adding new money due to the potential loss of investment should LC fail. Their recent prospectus states that investors can expect to lose their investment in the event of a company bankruptcy, with no guarantee of repayment from repayment from the underlying borrowers. Presumably, the borrower payments would go to creditors of the company, (before the note investors) of which there are several via private investment including Google. When I first invested with LC, they advised note repayment would continue in the event a LC failure, as they had a servicer ready to step in to handle note payments. However ther new servicer in this situation may have charged a higher servicing fee than the LC 1% charges. Apparently this has changed.

I feel the outlook for LC is good, but am not comfortable with both the credit risk of the borrowers, as well as the possible bankruptcy risk of LC, as it's a relatively young company, albeit a quickly growing company expected to go public this year.

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by jheez » Thu Feb 20, 2014 9:20 am

I put a small amount into prosper a long time ago and probably 75% defaulted later in the loan. I was trying to pick high quality borrowers, but I guess I didn't have much luck. Would have been much better off investing in junk bonds. Glad I didn't go overboard. I understand their credit transparency has improved since then

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by ot1138 » Thu Feb 20, 2014 11:02 am

14.5% after adjusting for defaults/grace periods after 13 months. Stay the course.

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by leonard » Thu Feb 20, 2014 11:38 am

RenoJay wrote:Hi All,

About two years ago I was one of the big proponents on this board for P2P lending through LendingClub and Prosper. I just want to post a caution that I've changed my tune 180 degrees. Starting about eight or nine months ago, I noticed the monthly interest collected was rapidly dwindling to the point where, annualized, it was massively below their advertised expected rates. (Now the run rate is perhaps 3-5% from what I can tell.) What I think happened is that demand for their loans skyrocketed due to institutional investors jumping on board. I think this had two effects: 1) The institutional money was likely given access to the better loans, thereby leaving the scraps for individual investors, 2) I think these marketplaces expanded their underwriting criteria and let in more marginal borrowers. In any case, I'm in the process of getting all my money out. I'll still do relatively well overall (probably 5% - 7% lifetime average return by the time my money is out), but I certainly would not add money at this point.

On another note, I had also put some posts about hard money collateral-backed lending. I've done about eight or nine of these loans, and thus far every single payment has arrived as expected and on time. I guess there's a difference in borrowers' minds of knowing their credit score could be hurt vs. knowing their home could be taken. I'll continue with the collateral-backed lending, but will not do any more unsecured lending.

Anyway, just thought I'd report the facts as I see them in case anyone is considering P2P lending.
So, small, undiversified loans through the internet aren't performing well. Huh. Weird.
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Re: Warning about P2P Lending [Peer-to-Peer]

Post by origami » Thu Feb 20, 2014 12:12 pm

I'm also making 13%+ (adjusted) after 4 years with Lending Club.
In the last year they had a problem where it was really hard to obtain the loans which would satisfy my criteria, but after they rolled out Prime it became much better (it still takes long time to invest money, but at least it happens automatically now).

Remember that P2P lending is very risky, it should never be your first choice of investment. It's more like "play money" for me.

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by LadyGeek » Thu Feb 20, 2014 4:55 pm

This thread has a good discussion: Google Invests $125 Million in Lending Club (May 02, 2013)
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Re: Warning about P2P Lending [Peer-to-Peer]

Post by fareastwarriors » Thu Feb 20, 2014 5:47 pm

Has anyone here ever gotten a loan? I assume not but figure I ask anyways.

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by chw » Thu Feb 20, 2014 6:26 pm

leonard wrote:
RenoJay wrote:Hi All,

About two years ago I was one of the big proponents on this board for P2P lending through LendingClub and Prosper. I just want to post a caution that I've changed my tune 180 degrees. Starting about eight or nine months ago, I noticed the monthly interest collected was rapidly dwindling to the point where, annualized, it was massively below their advertised expected rates. (Now the run rate is perhaps 3-5% from what I can tell.) What I think happened is that demand for their loans skyrocketed due to institutional investors jumping on board. I think this had two effects: 1) The institutional money was likely given access to the better loans, thereby leaving the scraps for individual investors, 2) I think these marketplaces expanded their underwriting criteria and let in more marginal borrowers. In any case, I'm in the process of getting all my money out. I'll still do relatively well overall (probably 5% - 7% lifetime average return by the time my money is out), but I certainly would not add money at this point.

On another note, I had also put some posts about hard money collateral-backed lending. I've done about eight or nine of these loans, and thus far every single payment has arrived as expected and on time. I guess there's a difference in borrowers' minds of knowing their credit score could be hurt vs. knowing their home could be taken. I'll continue with the collateral-backed lending, but will not do any more unsecured lending.

Anyway, just thought I'd report the facts as I see them in case anyone is considering P2P lending.
So, small, undiversified loans through the internet aren't performing well. Huh. Weird.
I would disagree. Based on most of the comments I read here, the stated returns have been in excess of 8-10% (even on older loans). The Prosper platform was a poor one when launched several years ago, and isn't indicative of returns seen over the past 4 years or so, especially on LC platform.

That being said, I'm no longer investing in P2P loans because of the risk of the platforms failing down the road. If this risk was minimal (IMO), I still would be an investor in these loans for a set allocation of my portfolio. I still may come back to LC if the IPO (anticipated this year) goes well, and the business matures and is profitable for the parent company for a period of time (several years).

The concept of this type of lending is intriguing, and only possible due to the internet, social media, and software capable of creating the efficiencies to bring this type of lending to the masses, with a deliviry system much cheaper than traditional brick and mortar finance companies. Many people shunned traditional finance companies (the people that didn't need these loans) for years, yet they have existed profitably for decades, and serve a need in the market. This platform gives borrowers an alternative at lower cost and rates, and with more transparency. The performance of the loans is reflected in the interest rate (risk based pricing), based on credit scoring models that have been used by most lenders for the past 15 years or longer.

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by leonard » Thu Feb 20, 2014 6:53 pm

bill1958 wrote:
leonard wrote:
RenoJay wrote:Hi All,

About two years ago I was one of the big proponents on this board for P2P lending through LendingClub and Prosper. I just want to post a caution that I've changed my tune 180 degrees. Starting about eight or nine months ago, I noticed the monthly interest collected was rapidly dwindling to the point where, annualized, it was massively below their advertised expected rates. (Now the run rate is perhaps 3-5% from what I can tell.) What I think happened is that demand for their loans skyrocketed due to institutional investors jumping on board. I think this had two effects: 1) The institutional money was likely given access to the better loans, thereby leaving the scraps for individual investors, 2) I think these marketplaces expanded their underwriting criteria and let in more marginal borrowers. In any case, I'm in the process of getting all my money out. I'll still do relatively well overall (probably 5% - 7% lifetime average return by the time my money is out), but I certainly would not add money at this point.

On another note, I had also put some posts about hard money collateral-backed lending. I've done about eight or nine of these loans, and thus far every single payment has arrived as expected and on time. I guess there's a difference in borrowers' minds of knowing their credit score could be hurt vs. knowing their home could be taken. I'll continue with the collateral-backed lending, but will not do any more unsecured lending.

Anyway, just thought I'd report the facts as I see them in case anyone is considering P2P lending.
So, small, undiversified loans through the internet aren't performing well. Huh. Weird.
I would disagree. Based on most of the comments I read here, the stated returns have been in excess of 8-10% (even on older loans). The Prosper platform was a poor one when launched several years ago, and isn't indicative of returns seen over the past 4 years or so, especially on LC platform.

That being said, I'm no longer investing in P2P loans because of the risk of the platforms failing down the road. If this risk was minimal (IMO), I still would be an investor in these loans for a set allocation of my portfolio. I still may come back to LC if the IPO (anticipated this year) goes well, and the business matures and is profitable for the parent company for a period of time (several years).

The concept of this type of lending is intriguing, and only possible due to the internet, social media, and software capable of creating the efficiencies to bring this type of lending to the masses, with a deliviry system much cheaper than traditional brick and mortar finance companies. Many people shunned traditional finance companies (the people that didn't need these loans) for years, yet they have existed profitably for decades, and serve a need in the market. This platform gives borrowers an alternative at lower cost and rates, and with more transparency. The performance of the loans is reflected in the interest rate (risk based pricing), based on credit scoring models that have been used by most lenders for the past 15 years or longer.
Did you read the OP's post. That's precisely what this thread is about.
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Re: Just an observation

Post by White Coat Investor » Fri Feb 21, 2014 3:26 am

jimb_fromATL wrote:For comparison with more conventional investments, through 2013 VFINX (Vanguard's S&P 500 index fund) returned 32.18% for 1 year and had a CAGR of 23.7% for 2 years; 16% for 3 years; and 17.8% for 5 years.

jimb
That's not cherry picking or anything. How about comparing it to VFINX from 2000-2010, or perhaps to EM over the last couple of years etc. The point of adding an asset class like P2PL is that they seemingly have very low correlation with anything else I own. As near as I can tell, it has zero correlation with equities and returns similar to them. That's an awfully attractive proposition. Yes, they're illiquid. Yes, they're subject to some very unique risks. Yes, I wouldn't recommend anyone have more than 5-10% of their portfolio invested in them. But man....13% returns and no correlation with anything else I own....

It's like Bogleheads talking bad about real estate. It's a second job and lots of leverage and undiversified yadda yadda yadda. But I still made 25% on the real estate investment I made last year. All markets are not as efficient as publicly traded stocks. There still are a few $20 bills lying around waiting to be picked up. There's a reason all these institutional lenders moved into the P2PL market. Do you have to invest in individual properties or P2P loans to have a great retirement? Of course not. Does that mean it's stupid? Nope.
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Re: Warning about P2P Lending [Peer-to-Peer]

Post by RenoJay » Fri Feb 21, 2014 10:38 am

For those who have done consistently well with P2P (i.e. 8%+ returns for more than three years), I would be very interested to learn what you did/do differently from me. If you're willing to share, these details would be valuable:

1. When did you start?
2. How big are your loans?
3. How many loans do you have?
4. What screening criteria do you use?
5. Do you read the individual borrower's "pitch" for each loan, or just use your screens?
6. What credit tranches (A,B,C, etc.) do you tend to focus on?
7. Do you use LC's Prime service, and if so, what screens do you make them adhere to?
8. Even though you annual returns have been great, have they continued in the past six months or so? (That's when I saw a steep decline.)
9. Are all your loans about the same size, or do you occasionally make a big bet on a borrower if he/she meets all your criteria?

Thanks!

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I don't have a dog in this race, but Re: Just an observation

Post by jimb_fromATL » Fri Feb 21, 2014 10:46 am

EmergDoc wrote:
jimb_fromATL wrote:For comparison with more conventional investments, through 2013 VFINX (Vanguard's S&P 500 index fund) returned 32.18% for 1 year and had a CAGR of 23.7% for 2 years; 16% for 3 years; and 17.8% for 5 years.
jimb
That's not cherry picking or anything. How about comparing it to VFINX from 2000-2010, or perhaps to EM over the last couple of years etc.
It's comparing the same time periods that people have been posting about their good returns ... during good times recovering from the second-worst recession/depression in history.

It's the only time span that can be compared. P2P lending didn't really start in the US until 2006. The default rates were terrible then and the returns were so grossly misrepresented that IMO it looked more like a Ponzi scheme than a legitimate investment. It wasn't until around 2008 that the SEC got into the act and declared that lenders like LC and Prosper were securities and there had to be at least some semblance of accountability. I also recall discussions about whether Prosper in particular and P2P lending in general were even going to survive. And even during these really good times during the rebound of the economy and stock market since the depression, there are still a lot of defaults.

Other posters in this thread have mentioned their losses during the recession, along with this:
deikel wrote:.. if you actually read the fine print available on both prosper and lending club websites you will see three pieces of info that are note worthy:

a) default rates will increase in later years of the respective loan (meaning people borrowing through PtoP are able to keep their obligation in the first 12-15 months, but start defaulting more often later on) - so your observation of issues later into the experiment seem somewhat normal

b) on Prosper you can see a graph of actual realized return depending on credit category. They cover the years from 07 to 10 if I recall correctly and you see that people doing PtoP during the recession only got about 2% out if they had the best category A loans, B turned about 0 and starting C people lost money
You said:
EmergDoc wrote: To provide a counter point, I'm still making 13%+ with Lending Club, 2 1/2 years into my "experiment." ...

Even if you don't consider that to be cherry-picking, how is it really proof of anything during an economic rebound when even the S&P 500 has done considerably better? You'd have to work hard at picking bad investments to do poorly during this somewhat unprecedented recovery from the second worst crash in history.
Deikel also said:
IMO, this is an interesting financial product that has appeal vs say a CD in terms of both return and accessability of the cash (since it flows back monthly) - its just a different type of financial vehicle.
...But when is the last time you had a CD that defaulted? Can you always be guaranteed to get your P2P principal back at any time with nothing but a loss of the last several months interest?
You also said:

The point of adding an asset class like P2PL is that they seemingly have very low correlation with anything else I own. As near as I can tell, it has zero correlation with equities and returns similar to them. That's an awfully attractive proposition. Yes, they're illiquid. Yes, they're subject to some very unique risks. Yes, I wouldn't recommend anyone have more than 5-10% of their portfolio invested in them. But man....13% returns and no correlation with anything else I own....

It's like Bogleheads talking bad about real estate. It's a second job and lots of leverage and undiversified yadda yadda yadda. But I still made 25% on the real estate investment I made last year. All markets are not as efficient as publicly traded stocks. There still are a few $20 bills lying around waiting to be picked up.

There's a reason all these institutional lenders moved into the P2PL market. Do you have to invest in individual properties or P2P loans to have a great retirement? Of course not. Does that mean it's stupid? Nope.


I just can't see it, and really can't understand institutions getting into it either except for the very large scale spreading the risk out better.

To me the idea of individuals diversifying with stable value funds that don't do particularly well during good times is to have them to reduce your loss because they don't drop as badly during bad times... just in case you may need the money and can't afford the time to ride it out.

As for real estate, it has historically kept up with inflation, and leveraging --outside of retirement accounts-- can make it a better return for the risk than the stock market averages. In fact most of the self-made millionaires I know did it with leveraged rental real estate over long time periods. (Not flipping or get-rich-quick schemes).

It can be considered a business since it gives you an opportunity to put in "sweat equity", and it gives unique opportunities with tax breaks on year-to-year income and deferring taxes on the long-term gain. And because of the tax breaks and leveraging, in normal markets and economic times it can still give great returns with no hands-on by using management companies (and deducting their costs too).

Real estate is also recovering after the worst crash in modern times, so if you already owned it and ride it out, you'll eventually get your money back. And the crash of the real estate market has presented a nearly unique opportunity to buy low and ride it back up during the recovery.

While it's not for me, the idea of gambling with risky investments with a small part of your portfolio is OK -- if you can afford it in the hope of higher returns, and don't mind the roller-coaster rides up and down.

But so far P2P lending has a history of not doing nearly as well as equities during good times, and of having very high default rates and accompanying losses during bad times. So you won't make as much in good times, and are pretty much guaranteed to lose during bad times due to the nature of the loans and the borrowers.

IMO the main difference with diversifying with P2P lending compared to other ways is that when a P2P borrower defaults, your money is gone, and they ain't gonna come back and pay you later no matter how long you wait.

jimb

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by hidethedrone » Fri Feb 21, 2014 11:41 am

fareastwarriors wrote:Has anyone here ever gotten a loan? I assume not but figure I ask anyways.
I wanted to chime in on this side.

P2P certainly has a fond place in my heart. I got a hefty loan I wouldn't have been able to get otherwise (I was turned down by traditional banks) for $15,000 to payoff my credit card debt. I was rated A4. Needless to say that was the kickstart I needed 2 years ago to get out and stay out of expensive debt.

Not sure what this means to anyone. I did start an account with a very small amount of money (less than $1,000) because I felt like I could do some good investing in others. I did experience my first default with a scare of my second right after so I'm liquidating my account for now. I just don't have enough invested to stay in there and weather normal payment variance. When I have that extra $5,000 around to sign up for prime I'll certainly do it again. I tried buying loans on the secondary market as a way of circumventing the demand for notes at release time but it just wasn't as time efficient as I liked. I also tried buying and selling for quick gains but again, just not time efficient for what you earn.

It's certainly not as attractive as it once was since it's so flooded with investors now, but I still believe in it.

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by chead » Fri Feb 21, 2014 12:29 pm

I've never quite understood P2P lending. There is tons of competition in the market to provide consumer credit (banks, credit card companies, mortgage companies, payday loans, etc). Rest assured that if these companies are passing on providing a loan or charging a high interest rate, there is a good reason. They have huge scale advantages that allow for lower overhead, lots of diversification and plenty of data to more accurately predict default rates. Given how easy Prosper and Lending Club have made it, there's not even much opportunity to "put in the legwork" (e.g. being landlord).

I just don't see the angle where an individual can really compete other than taking on excess risk.

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by White Coat Investor » Fri Feb 21, 2014 12:53 pm

RenoJay wrote:For those who have done consistently well with P2P (i.e. 8%+ returns for more than three years), I would be very interested to learn what you did/do differently from me. If you're willing to share, these details would be valuable:

1. When did you start?
2. How big are your loans?
3. How many loans do you have?
4. What screening criteria do you use?
5. Do you read the individual borrower's "pitch" for each loan, or just use your screens?
6. What credit tranches (A,B,C, etc.) do you tend to focus on?
7. Do you use LC's Prime service, and if so, what screens do you make them adhere to?
8. Even though you annual returns have been great, have they continued in the past six months or so? (That's when I saw a steep decline.)
9. Are all your loans about the same size, or do you occasionally make a big bet on a borrower if he/she meets all your criteria?

Thanks!
I've blogged about my experience as I've gone along, but I'll try to give an update.

1. Nov 2011
2. $25-50
3. 700+
4. Different for LC and Prosper, and it changed. I initially invested in some of the safer loans, then after realizing the riskier one had higher returns, changed strategy.
5. You can't see the pitch any more, so just screens.
6. Riskier ones for LC. B-D for Prosper
7. Haven't tried it yet. I've been using a similar private service to reduce my time requirement.
8. Doing better more recently, especially with Prosper. Had a rough first year there.
9. No big bets. That seems kind of foolish to me. The only reason I went to $50 was because it got harder to find good loans. I'll probably go to $75-100 for the same reason. I'm pretty picky about loans. It takes a couple of months to get $3-4K invested, even with it being done automatically. I couldn't do it this way if I needed to invest $250K.

You didn't ask about management of loans once bought, another place to add value. I've sold lots ofLC loans that were late, but never actually had a LC loan go to zero. I've had Prosper defaults, as they don't let you sell late loans, even at a severe discount.

Here's my actual returns data:

Lending Club (Started Nov 2011)
2011: 3.22%
2012: 13.69%
2013: 13.27%
YTD: 1.85%
Overall: 13.51%

Prosper (started Feb 2012)
2012: 4.48%
2013: 10.64%
YTD: 2.30%
Overall: 8.60%

Combined Overall: 13.25%

Are P2P Loans risky? You betcha. Am I being rewarded for taking that risk? I think so.
1) Invest you must 2) Time is your friend 3) Impulse is your enemy | 4) Basic arithmetic works 5) Stick to simplicity 6) Stay the course

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by RenoJay » Fri Feb 21, 2014 1:41 pm

EmergDoc wrote:
RenoJay wrote:For those who have done consistently well with P2P (i.e. 8%+ returns for more than three years), I would be very interested to learn what you did/do differently from me. If you're willing to share, these details would be valuable:

1. When did you start?
2. How big are your loans?
3. How many loans do you have?
4. What screening criteria do you use?
5. Do you read the individual borrower's "pitch" for each loan, or just use your screens?
6. What credit tranches (A,B,C, etc.) do you tend to focus on?
7. Do you use LC's Prime service, and if so, what screens do you make them adhere to?
8. Even though you annual returns have been great, have they continued in the past six months or so? (That's when I saw a steep decline.)
9. Are all your loans about the same size, or do you occasionally make a big bet on a borrower if he/she meets all your criteria?

Thanks!
I've blogged about my experience as I've gone along, but I'll try to give an update.

1. Nov 2011
2. $25-50
3. 700+
4. Different for LC and Prosper, and it changed. I initially invested in some of the safer loans, then after realizing the riskier one had higher returns, changed strategy.
5. You can't see the pitch any more, so just screens.
6. Riskier ones for LC. B-D for Prosper
7. Haven't tried it yet. I've been using a similar private service to reduce my time requirement.
8. Doing better more recently, especially with Prosper. Had a rough first year there.
9. No big bets. That seems kind of foolish to me. The only reason I went to $50 was because it got harder to find good loans. I'll probably go to $75-100 for the same reason. I'm pretty picky about loans. It takes a couple of months to get $3-4K invested, even with it being done automatically. I couldn't do it this way if I needed to invest $250K.

You didn't ask about management of loans once bought, another place to add value. I've sold lots ofLC loans that were late, but never actually had a LC loan go to zero. I've had Prosper defaults, as they don't let you sell late loans, even at a severe discount.

Here's my actual returns data:

Lending Club (Started Nov 2011)
2011: 3.22%
2012: 13.69%
2013: 13.27%
YTD: 1.85%
Overall: 13.51%

Prosper (started Feb 2012)
2012: 4.48%
2013: 10.64%
YTD: 2.30%
Overall: 8.60%

Combined Overall: 13.25%

Are P2P Loans risky? You betcha. Am I being rewarded for taking that risk? I think so.
EmergDoc: Thanks for sharing. It sounds like selling late loans is a big part of the success equation. Are you willing to share what your screens are for the loans?

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by White Coat Investor » Fri Feb 21, 2014 2:47 pm

RenoJay wrote:
EmergDoc wrote:
RenoJay wrote:For those who have done consistently well with P2P (i.e. 8%+ returns for more than three years), I would be very interested to learn what you did/do differently from me. If you're willing to share, these details would be valuable:

1. When did you start?
2. How big are your loans?
3. How many loans do you have?
4. What screening criteria do you use?
5. Do you read the individual borrower's "pitch" for each loan, or just use your screens?
6. What credit tranches (A,B,C, etc.) do you tend to focus on?
7. Do you use LC's Prime service, and if so, what screens do you make them adhere to?
8. Even though you annual returns have been great, have they continued in the past six months or so? (That's when I saw a steep decline.)
9. Are all your loans about the same size, or do you occasionally make a big bet on a borrower if he/she meets all your criteria?

Thanks!
I've blogged about my experience as I've gone along, but I'll try to give an update.

1. Nov 2011
2. $25-50
3. 700+
4. Different for LC and Prosper, and it changed. I initially invested in some of the safer loans, then after realizing the riskier one had higher returns, changed strategy.
5. You can't see the pitch any more, so just screens.
6. Riskier ones for LC. B-D for Prosper
7. Haven't tried it yet. I've been using a similar private service to reduce my time requirement.
8. Doing better more recently, especially with Prosper. Had a rough first year there.
9. No big bets. That seems kind of foolish to me. The only reason I went to $50 was because it got harder to find good loans. I'll probably go to $75-100 for the same reason. I'm pretty picky about loans. It takes a couple of months to get $3-4K invested, even with it being done automatically. I couldn't do it this way if I needed to invest $250K.

You didn't ask about management of loans once bought, another place to add value. I've sold lots ofLC loans that were late, but never actually had a LC loan go to zero. I've had Prosper defaults, as they don't let you sell late loans, even at a severe discount.

Here's my actual returns data:

Lending Club (Started Nov 2011)
2011: 3.22%
2012: 13.69%
2013: 13.27%
YTD: 1.85%
Overall: 13.51%

Prosper (started Feb 2012)
2012: 4.48%
2013: 10.64%
YTD: 2.30%
Overall: 8.60%

Combined Overall: 13.25%

Are P2P Loans risky? You betcha. Am I being rewarded for taking that risk? I think so.
EmergDoc: Thanks for sharing. It sounds like selling late loans is a big part of the success equation. Are you willing to share what your screens are for the loans?
Here's the link. There's really nothing magic, just some standard back-testing.

http://whitecoatinvestor.com/returns-vs ... ding-club/
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Re: Warning about P2P Lending [Peer-to-Peer]

Post by HomerJ » Fri Feb 21, 2014 2:59 pm

RenoJay wrote:Instead, I'd rather loan $250k against a property worth $450k, get a fixed rate of 9% - 10% and be done with it. (Which is pretty much what the collateral-backed lending I've done looks like.)
I'm still amazed you can find people that are smart enough to have saved a $200k down-payment, yet dumb enough to pay 10% interest. Renting until their credit is repaired (or buying a smaller house for cash) has GOT to be a smarter move for those people.

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by RenoJay » Fri Feb 21, 2014 7:33 pm

HomerJ wrote:
RenoJay wrote:Instead, I'd rather loan $250k against a property worth $450k, get a fixed rate of 9% - 10% and be done with it. (Which is pretty much what the collateral-backed lending I've done looks like.)
I'm still amazed you can find people that are smart enough to have saved a $200k down-payment, yet dumb enough to pay 10% interest. Renting until their credit is repaired (or buying a smaller house for cash) has GOT to be a smarter move for those people.
As long as the banks remain so tight with credit, and as long as there are many people out there who can't qualify for bank loans, they'll likely continue to make deals for housing and only realize late in the game that they can't get financing. To them, I'm a life-saver because their other option is often to forgo a non-refundable deposit. (Plus, they can always repay me in six months or a year once their credit is better. So for those who believe housing prices will continue to rise, there could be some logic to locking in today's home prices and planning a refi down the road.)

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by cb474 » Sun Feb 23, 2014 11:06 pm

bill1958 wrote:I've had mainly positive experience with LC the past 4 years, with average returns of 10.50% on an aged portfolio. However I'm no longer adding new money due to the potential loss of investment should LC fail. Their recent prospectus states that investors can expect to lose their investment in the event of a company bankruptcy, with no guarantee of repayment from repayment from the underlying borrowers. Presumably, the borrower payments would go to creditors of the company, (before the note investors) of which there are several via private investment including Google. When I first invested with LC, they advised note repayment would continue in the event a LC failure, as they had a servicer ready to step in to handle note payments. However ther new servicer in this situation may have charged a higher servicing fee than the LC 1% charges. Apparently this has changed.

I feel the outlook for LC is good, but am not comfortable with both the credit risk of the borrowers, as well as the possible bankruptcy risk of LC, as it's a relatively young company, albeit a quickly growing company expected to go public this year.
I think this is something many people may not understand. As far as I know, when you do P2P loans through these companies, you do not actually own the loan, in the way that you do with a bond or traditional mortage. Lending Club, et al, are passing on the interest payments to you for the loan you selected, but they own the loan. So in the event of bankruptcy, they can (and will) use the value of the loans to cover their own debts. For companies and a business sector with an incredibly short track record that poses a huge and unknownable risk.

What I don't get about the appeal of the whole P2P thing is that I can't imagine taking money out of the part of my AA that's invested in treasuries for this. It's really hard to see it as an alternative the the low current rates on bonds. Is the potential return from P2P loans better? Yes. Are those in any way comparable in terms of risk? No. Why? Not just because of the risk of default, but because of Lending Club goes bankrupt you could lose everything (whereas if Vanguard goes bankrupt, your shares in the funds belong to you, you still own them, and they retain their value.) Similary the risk with any investments in corporate or muni bond funds is also not remotely comparable to P2P loans.

So I'd have to take the money out of equity investments to do P2P lending on any scale significant enough to be a real part of my AA (in other words, as anything more than play money). Is it clear that the long run benefits and risks of P2P lending are comparable to equity investments, in passive index funds? It's an unanswerable question in a business with a super short track record. Clearly P2P lending has, again, both a risk of default and of the P2P company going bankrupt, in which one's investments could go permanently to zero, in a way that seems pretty unlikely for equity investments (short of an economic catacylism in which we're all screwed and living in shelters regardless of your investments).

It's not hard to imagine a scenario, like 2008, in which the market crashes, the economy goes into recession, Lending Club and the like go bankrupt and you lose everything that's "invested" with them, but as much as the loss in value in equity investments hurts, they do eventually recover. So the risk of P2P loans I think significantly exceeds that of equity investments. At the same time, it's hard for me to imagine that a couple decades from now P2P loans (if they still exist) will have average returns that exceed that of the equity market. It seems likely that either these companies will fail or whatever free lunch is going on here will be arbitraged away by institutional investors sooner (probably) or later.

So I guess it's hard for me to buy EmergDoc's argument that the rate of return and non-correlation to equities justifies the risk, which is large and basically unknowable. I think jimb_fromATL's analysis above basically gets in right.

The best way to look at P2P loans, I think, is as a business. You're doing a lot of work to take on some significant risks, that can't really be diversified away (risk of LC going bankrupt or massive rate of default in next crash/recession) and you can earn some money from that. Just as one can be a real estate speculator or a venture capitalist. Some of those people do great. Some lose their shirts. On average do they beat the market over the long haul? So whether this counts as a viable "investment" for the average boglehead, I'm remain extremely skeptical. Is it really plausible that in the decades long run, for which most of us are investings, this is going to be better than investing in passive index equity funds? If not, why is it worth the effort? And couldn't one simply earn more income in their career, with the time and effort involved in doing P2P lending well?

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by White Coat Investor » Mon Feb 24, 2014 1:54 am

I don't think it quite takes that much time. I spend about 2 minutes a week on it. It would less (like 10 minutes a year) if I didn't sell late loans. So you can toss that argument out.

The issue with Lending Club going bankrupt is a serious concern. You can diversify a bit by going to Prosper and some other companies, but there are only a few.

Average returns at Lending Club are similar to what many experts predict for equities going forward- 6 or 7%. However, it turns out there is still room for alpha in P2P Lending, where that isn't really much of a possibility in the equities market, at least alpha that exceeds costs. As you recall, I'm making 13%. It's one of the few places in my portfolio where a little work and expertise actually improves my returns. There is something attractive about that.

I certainly don't think the "average Boglehead" needs to invest in P2P loans to be successful. It's only 5% of my portfolio due precisely to the risks you explain so well.

However, my TIPS lost 8% last year. My P2P loans made 13%. While it's fun to argue theory, you can't eat theory in retirement.
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Re: Warning about P2P Lending [Peer-to-Peer]

Post by cb474 » Mon Feb 24, 2014 5:17 am

EmergDoc wrote:I don't think it quite takes that much time. I spend about 2 minutes a week on it. It would less (like 10 minutes a year) if I didn't sell late loans. So you can toss that argument out.
Okay, perhaps it's not that much work, once one figures it out and assuming that everyone on average can reproduce your results. Otherwise, it seems like it's only something for more sophisticated users. In any case, maybe it's better to compare P2P loans to something like a hedge fund, which could give one above average returns in the long run, but probably won't and probably has a lot more risk than most investors understand.
EmergDoc wrote:However, my TIPS lost 8% last year. My P2P loans made 13%. While it's fun to argue theory, you can't eat theory in retirement.
I really don't buy, given the nature of the risks, that comparing these loans to a riskless investment like treasuries of any sort is a legitimate comparison. It's much more legitimate to compare it to equities. I'm not even convinced that P2P loans are (in the long run) less risky than equities, for the reasons I state above.

As jimb_fromATL pointed out above, Vanguard's S&P 500 fund VFINX returned 32.18% last year. So it seems to me equally legitimate, using your words, to say: "However, my TIPS lost 8% last year. My VFINX made 32.18%. While it's fun to argue theory, you can't eat theory in retirement." But I think if people were recommending equities in lieu of one's fixed income part of one's asset allocation, everyone would see immediately the potential problems with that position, in retirement. On the other hand, if one compares your P2P loan returns to the returns of the equity portion of one's asset allocation, then 13% doesn't look so good compared to 32.18%.

Obviously that's just cherry picking one year, but it's equally true of what you're saying at your P2P loans. And, again, I think P2P loans have way too short of a track record to assume those sort of returns will continue. At best I think the alpha you speak of is going to be arbitraged away, as I said, as more institutional and sophisticated investors get into it. At worst, perhaps you lose everything.

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by chw » Mon Feb 24, 2014 6:01 am

cb474, I think your analysis is spot on. I think the typical P2P investor is blinded by the returns they get despite the note risks, but ignore the potential bankruptcy risk of the P2P company. IMO, the average P2P lender doesn't understand that they do not have any ownership in the underlying notes. Essentially, LC and Prosper are like banks where you work a bit more for your return on investment (interest), but don't have the blanket FDIC coverage guaranteeing your principal if the bank fails.

I would not compare returns on these notes to equities or TIPs. I feel the closest asset class to P2P investing is junk bonds.

Time will tell if these companies go on to be mainstream lenders with an ongoing platform. I still plan to keep a very small investment (less than the gains I've netted so far) with LC, as I feel LC has a good chance to become a viable platform, but I'm not willing to bet 5% of my AA on essentially a stock pick in one company (LC), at this stage of their growth cycle.

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by Ice-9 » Mon Feb 24, 2014 11:42 am

I invested in Prosper shortly after it opened in 2006 for the duration of its initial period through 2008 that Prosper denizens often call "Prosper 1.0," before the SEC forced a number of changes to the platform. I went into it with the expectation that I'd beat CD returns at the time by a few percent, but my actual returns on more than 250 small loans ended up being very close to what CDs offered back then (approx. 4%.) This actually turned out to be a relatively high return in comparison to my peers at Prosper from that period.

I no longer invest in Prosper because (1) I'm not allowed to in my state and (2) even if I could invest, I no longer believe it has a place in my portfolio. However, I have no regrets about my participation in peer-to-peer lending. I feel I got some return beyond the ROI, especially improving my perspective on finance and how other people deal with money.

I'm not a big borrower myself. I also have excellent credit. Before lending on Prosper, I had no idea so many people borrowed for so many things, often quite willingly at what I considered to be very high rates. I read borrowers loan application descriptions of situations where they wanted loans to get out of even more expensive payday loans. Some curiously wanted to consolidate credit card debt at a rate higher than any of their current credit cards. Some wanted to start various businesses. One wanted to take out a three-year loan at 29% just to put their child in summer camp for one summer. There were people with great credit profiles requesting loans for all of these things, and there were people with scary credit profiles requesting loans for all of these things.

As the months passed and I saw the ultimate fate of these loans, it was great to cheer on my borrowers whose loan descriptions sounded like the loan would help them out of a tough situation as they successfully paid the loan off each month, sometimes making additional early payments. It was not so great - but still educational - to watch some borrowers stop paying. Most of these stopped, then started for a couple months, then stopped again, indicating to me that making the monthly payments was a struggle to them; I started rooting for them the most. Some of the strugglers managed to pay in full, even if they did so a few months after what was supposed to be the paid-in-full date. Quite a few never caught up. There was even one - who by the way had excellent credit and had impressed me further with his well written loan description - who filed for bankruptcy a mere two months after the loan originated, indicating to me that it was likely a "strategic bankruptcy" that the borrower may have been planning before he composed that excellent loan description and took out the loan.

So, my experience with P2P Lending didn't involve a lot of return, but a lot of education. A lot of perspective. Also a good bit of what one lender on Prosper's old forums aptly called "financial voyeurism" - getting a rare look at how many other people manage money.

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by leonard » Mon Feb 24, 2014 11:47 am

Take an already diversified pool of potential loans. Then, intentionally undiversify it - by taking on individual, specific loan risk.

In the process - one is actually going to extra effort to undo diversification benefits that are already in the loan pool.

How does it make sense to undo diversification without being compensated for it.
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Re: Warning about P2P Lending [Peer-to-Peer]

Post by BanditKing » Mon Feb 24, 2014 4:30 pm

RenoJay wrote:Hi All,
On another note, I had also put some posts about hard money collateral-backed lending. I've done about eight or nine of these loans, and thus far every single payment has arrived as expected and on time. I guess there's a difference in borrowers' minds of knowing their credit score could be hurt vs. knowing their home could be taken. I'll continue with the collateral-backed lending, but will not do any more unsecured lending.
Are you doing that through LC/Prosper or somewhere else?

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by White Coat Investor » Mon Feb 24, 2014 7:26 pm

cb474 wrote:Otherwise, it seems like it's only something for more sophisticated users. In any case, maybe it's better to compare P2P loans to something like a hedge fund, which could give one above average returns in the long run, but probably won't and probably has a lot more risk than most investors understand.
I think that's a very fair criticism. As I told one of my partners today in response to his question about it. "Yes, I'm still doing it. I made 13% last year. But I can't in good faith recommend that YOU do it." If people want my recommendation of how to invest, buy a portfolio of diversified, low-cost, passive funds, perhaps with a small value tilt, and rebalance it per your investing personal statement.

For those who like to play around on the edges of their portfolio or are asset class junkies, it is possible that P2P Loans may be beneficial to your portfolio.

I wouldn't compare them to corporate junk bonds. I think they're much riskier than something like Vanguard's High Yield Bond Fund. The yield is much higher too.

The way I looked at it is that more than 40% of the loans would have to default without ever making a payment for me to lose money (ignoring the individual company risk to Lending Club). In my portfolio, much fewer than 40% of the loans have defaulted. I've sold off quite a few that had gone late (some of which went on to default and some of which went on to start making payments again), but I don't have any defaults. Certainly much fewer than 40% have ever gone late. Time will tell if it was a good idea or not. Best case scenario- I keep making double digit returns. Sounds great. Reasonable scenario- returns drop to single digits. I can live with that. Possible scenario, returns become bad in the next recession and I lose lots of money. That'll suck. Unlikely scenario, LC goes out of business and I collect pennies on the dollar. That would really suck, but I can afford it given this is only 5% of my portfolio (actually not even that much yet.)
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Re: Warning about P2P Lending [Peer-to-Peer]

Post by cb474 » Tue Feb 25, 2014 3:15 am

bill1958 wrote:cb474, I think your analysis is spot on. I think the typical P2P investor is blinded by the returns they get despite the note risks, but ignore the potential bankruptcy risk of the P2P company. IMO, the average P2P lender doesn't understand that they do not have any ownership in the underlying notes. Essentially, LC and Prosper are like banks where you work a bit more for your return on investment (interest), but don't have the blanket FDIC coverage guaranteeing your principal if the bank fails.

I would not compare returns on these notes to equities or TIPs. I feel the closest asset class to P2P investing is junk bonds.

Time will tell if these companies go on to be mainstream lenders with an ongoing platform. I still plan to keep a very small investment (less than the gains I've netted so far) with LC, as I feel LC has a good chance to become a viable platform, but I'm not willing to bet 5% of my AA on essentially a stock pick in one company (LC), at this stage of their growth cycle.
Thanks, bill1958. Yes, I agree that it seems likely that most people do not understand the ownership nature of the notes and the risk of LC goes bankrupt. EmergDoc characterizes that risk as "unlikely." I would characterize it as something more like unknowable. Basically we're in uncharted territory with these companies and therefore that to me seems like a very significant risk.

EmergDoc wrote:I wouldn't compare them to corporate junk bonds. I think they're much riskier than something like Vanguard's High Yield Bond Fund. The yield is much higher too.
Yeah, I was thinking about making that comparison (and I think I did in the past in another thread), but then decided as you did that the P2P loans are more risky than junk bonds. Also, again, since the "holder" of the loan does not actually own it, they are quite different in nature.

What I now think is perhaps the best comparison, which bill1958 also proposes, is that holding a number of LC P2P loans is like making a stock pick in LC. It is precisely because one does not actually own the loans and one is subject to a total loss if LC goes out of business, that it's like owning stock in a company, I think.

Imagine if instead of allowing users to choose the loans they wanted to fund and earn interest on (even while LC remains the actual owner of the loan), that LC made the selection of loans themselves, funded them with capital raised through selling shares, and then shareholders partook in the profits (as usual) via dividends and growth in value of the company, less the administrative costs of running the business (which is already a cost built into LC's loans). Imagine also that they don't fund all of the loans currently offered, but instead they use the selection criteria and methods that you (EmergDoc) use, so overall they were (so far) able to reproduce the same 13% returns that you have gotten so far.

In this case, the loans would be the same, the returns/earnings would be the same, the ownership of the loans would be the same, and as with purchasing shares in any business you would be subject not just to the risk of the loans themselves (the underlying business model), but to the risk of a total loss if the business dissolves. I think functionally this would be a pretty much identical situation both in terms of risk and potential earnings/returns.

One could argue some sort of value is added by allowing users to select the loans themselves. But if it really only takes 2 minutes a week for EmergDoc to do as well as he has done, then I think that may be irrelevant. Presumably any sophisticated user, such as the people who would start a business like this, could weed out the truly unworthy loans just as easily. The choosing of the loans oneself element I think functions more to draw people in (it's interesting to do, people like being in control) and to let LC not have to carry the blame when a particular loan goes south. That all almost seems to me more like a clever PR strategy, than the invention of a new investing platform.

So in the end, this quality of being an awful lot like a stock pick in a single company (because of the risk of insolvency) to me makes the nature of the risk something only for that part of the AA that is play money. I, personally, can't imagine putting 5% or even a couple percent of my assets in a single stock of an interesting new startup, no matter how great it seems. And of course, if one is going to make single stock picks on clever Silicon Valley startups, it seems like the opportunities for 13% returns or much greater in the early years are not that surprising. Perhaps the biggest difference is that normally a company at the phase of development that LC finds itself in has not gone public and so average Joe's don't have the opportunity to invest in them early on.

*

Off hand, another possible comparison it seems to me is between holding a bunch of P2P loans and collaterlized debt obligations. CDOs were supposed to take a bunch of risky loans, slice them up, put the slices into different securities, mix in some less risky assets, and voila create a security that is less risky than it's underlying assets. We all know how that turned out. The risk was real and it showed up in spades. But I still think the stock pick comparison is more analogous, because of the insolvency of LC possibility.

EmergDoc wrote:The way I looked at it is that more than 40% of the loans would have to default without ever making a payment for me to lose money (ignoring the individual company risk to Lending Club). In my portfolio, much fewer than 40% of the loans have defaulted. I've sold off quite a few that had gone late (some of which went on to default and some of which went on to start making payments again), but I don't have any defaults. Certainly much fewer than 40% have ever gone late. Time will tell if it was a good idea or not. Best case scenario- I keep making double digit returns. Sounds great. Reasonable scenario- returns drop to single digits. I can live with that. Possible scenario, returns become bad in the next recession and I lose lots of money. That'll suck. Unlikely scenario, LC goes out of business and I collect pennies on the dollar. That would really suck, but I can afford it given this is only 5% of my portfolio (actually not even that much yet.)
One scenario, that I think hasn't been discussed, but perhaps you have thought of it, is that you have been able to sell your stake in loans that you no longer want. It seems like as P2P loans at LC grow and become more popular that might work well. But if defaults start going up for some reason or a lot of people want to cash out all of a sudden for some reason, there could be good old fashioned run on the bank, with loans dropping in value to near zero pretty fast. Perhaps LC wouldn't have to go bankrupt to lose everything. The mere hint of some problem or administrative corruption or snafu could start the stampede. Mt Gox, the biggest Bitcoin exchange, as another example of an experiment in free market P2P finance, as of today has collapsed completely (preceded by a run and then disallowing withdrawals) due to what were essentially technical problems and ineptitude.

Given all of these risks, I also really wonder if your 13% returns can really be said to be due to alpha, as you have suggested, because the market for these loans isn't that efficient yet. It seems a lot more likely that, as usual, this reflects the actual level of risk. Then the question becomes, is this really an efficient way to take risk? There the comparison to junk bonds might be vaild, since they really are a much less efficient way to take risk than simply increasing one's equity allocation.

Anyway, a bunch of thoughts. Perhaps they're not all exactly right. But I do generally think that people are underestimating and mischaracterizing the risks with P2P loans. I also suspect that very few individual P2P loan users are as sophisticated investors as you EmergDoc (based on your other posts about bonds), so I really think it's of pretty limited value, beyond playing around.

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Re: Warning about P2P Lending [Peer-to-Peer]

Post by packer16 » Tue Feb 25, 2014 7:02 am

I think you analogy to individual stocks is pretty good. If you have the background and want to spend the time learning how companies (or loans) are valued then you can make money by going after the inefficiencies in the market. But the approach should be opportunistic if you only focus on a few and have a general tilt if you diversify. In stocks some like to tilt towards value, the analogy in P2P would be a loan that increases its credit grade over time. However, in the P2P lending situations the lender can prepay so you will get some adverse selection with the "good" credits repaying (I think it is in the 70% range in the high grades) and you are left with the "bad" credits. You see this in junk bonds also.

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