On the retail investing side of Peer to peer lending, we have 2 big lending platforms at our disposal in the US: Prosper and Lending Club. By now, this is no big secret to those that read this and other blogs on the subject. As retail investors, we invest for a bunch of different reasons. Below I have identified 5 different types of peer lending investor. Which one are you?
Type 1: The "Savings Account Substitute" Investor
The first type is the reason many of our baby boomer brethren are likely investing in these loans. As we age, we move from trying to grow our investments, known in the investment world as the accumulation stage, to the preserving our principal and living off of the interest phase, known in the investment world as the distribution stage. When investors hit the distribution stage, they are looking for safe investments that allow them to earn interest to live off of, but does not pose a risk to their nest egg. This used to be savings accounts and government bonds, both of which paid a decent rate of interest and were perceived as safe. No longer. Today neither are considered that safe and interest rates are so low, they don't even keep up with inflation meaning there's a negative real interest rate.
Enter peer to peer lending. Spreading out the risk over numerous loans virtually guarantees a positive rate of return and many investors are yielding in the double digits without excessive risk being taken. I know because I'm one of them. However, investing in only the safest A rated loans still earns the Savings Account Substitute investor a yield of 6% or maybe more, more than 4 full percent (known as 400 basis points) above where government bonds are yielding currently. This is a great investment alternative for part of a retirement nest egg.
Type 2: The Yield Seeker
The next type of investor is the one who seeks the highest yield for his money that he can get. He may or may not have invested his money in penny stocks previously but that can require alot of capital to be properly diversified. Since we can invest as little as $25 per loan, we can diversify very easily while seeking yield by buying some B rated loans but lots of C,D,E and even higher yielding loans all at our fingertips.
Since peer lending was first discovered by techies due to the nature of the investing platform, many of them are big believers and evangelists of the platforms (thanks to you guys for that) and they are also often also the Yield Seeker. They accept the risk that some loss is happening and will happen and figure it will all even out well to their advantage in the end. For almost all loans made since 2010 on these platforms, that is proving to be true.
Type 3: The "Other Than The Stock Market" Investor
Here is a type of investor I'm personally very familiar with as I fall into this category. The "Other Than The Stock Market" investor is an investor who seeks to invest his or her money in something he understands and does not think is rigged against him. Lots of people had thought there are system problems with the stock market that rig it against the smaller investor. Just this week, 60 Minutes did a story on high speed computerized trading and shows how the market is rigged in favor of those with the most speedy powerful trading systems. It's a race for speed and us little investors lose.
As an investor seeking to grow my savings for the future, I need a solid return over a long period of time with a risk that is low over a long term. For me, this is peer to peer lending, at least for a portion of my savings. Since I'm a commercial credit analyst already, understanding loans is something I already do but many people in the blogosphere, including me here have instructionals on how to learn to evaluate and filter loans for yourself based on your own tolerance for risk. Search the posts for the Credit Analysis tag and you're on your way. I am a typical "Other Than the Stock Market" investor.
Type 4: The "Stick It to the Man" Investor
Banks used to lend money to people. They used to lend to small businesses for something other than buying a building and they used to lend to individuals for things other than buying a home. That has changed for the forseeable future. Most peer loan borrowers are consolidating their debts including high credit card interest rates into a lower rate loan. When we invest in these loans, we are helping this borrower pay a much lower rate to consolidate this debt. When a bank or credit card company raises their interest rates on good paying customers just because they can, it is infuriating and non-sensical. We know they are good paying since we see on their loan listing when their last late payment occurred. When we help this borrower, we are helping them stick it to the credit card company for doing this to them. This is the "Stick It to the Man" investment philosophy. They invest both to earn interest and to stick it to the companies who are doing this to their customers. I must admit there is a little of this in my investing too.
Type 5: The "Help Thy Neighbor" Investor
The first term for peer to peer lending when introduced was Social Lending. In a previous post on how to tell your grandma that peer to peer lending is safe, the #4 reason I discuss is the Social Lending/Community lending aspect of peer to peer lending. This used to be the only form of lending before modern banking where the community would lend to a farmer for a tractor and he'd pay back out of his crop from that season. While earning interest is a nice benefit, helping people in his own community is the mantra of the "Help Thy Neighbor" investor. All Kiva investors are this type.
While earning money is the end result, there are many reasons why we invest in peer to peer loans. My declaration of being a type #3, the "Other Than Stock Market" investor is true for myself but not 100% true. I know I like sticking it to the banks who are making it tough for their customers too, making me a type #4 investor too. Of the 5 types, which do you most closely identify with or is it something not even on this list? I'd love to hear in your comments below.