My Experience with Peer to Peer Lending

When I started investing in 2013, I only knew one thing: I needed to start investing. I was still working out the details of how and what I would be investing in. I tend to learn best by just doing. So I jumped into investing with a small amount of money.

The first investments I ever made were in four active managed fund using RaboDirect. I choose the fund based on past performance rather than choosing funds to create my desired portfolio- that was my first mistake. The second mistake was not focusing on fees, so I paid more than 2% fees for the first few years.

In 2016 I thought I came across what I thought was a great investment opportunity outside of my expensive managed funds, Peer to peer lending. The allure of sidestepping big financial institutions to provide loans to everyday people and receiving 15 to 20% returns drew me in. Now nearly 5 years on- I thought I would look back at my investments in peer to peer. Was investing in Peer to Peer loans worthwhile?

What’s So Special about Peer-to-Peer Lending?

So what is so special about peer to peer lending? Well, it’s supposed to remove the middle man. P2P, in general, is a method of connecting individuals with a service or product to other individuals who need that service or product. This makes the product or service cheaper, as it removes the middleman involved in the transaction. Lowers the price of doing business. For P2P lending, this means increasing returns for the investors and decreasing the interest charged to borrowers.

But what I came to learn was that there is still a middleman involved. The platforms! The platforms that connect buyers and sellers are essentially middlemen, and they will take a small cut on every transaction. This cut is smaller than the traditional middlemen, but it’s still a cut. And they have the same power as traditional middlemen.

That brings me onto one of my main peeves of Peer to Peer, which was the lack of loans to invest in. Either there were too many investors that snap up the loans really quickly, or too few borrowers using the peer to peer platforms. In the early days, there would be at least several dozen loans a week to choose to invest in. After a year or so, I would only see one loan available a week at best, and other investors would quickly snap them up. For a while, I would rely on email alerts notifying me of a new loan. I’d have to drop what I was doing and sign in during the workday and make a snap decision on whether or not to invest in a particular loan.

Having a quick look at the loan details before deciding whether or not to invest. Or you could just have a quick glance at the loan grade- but I felt that was a bit risky. Loan grades are based on numerous factors including:

Income (debt-to-income ratio)
Loan amount
Loan purpose
Loan term

Many times during this process, the loan had already been fully funded by other investors before you made your decision. That is how competitive trying to invest with peer to peer had become. And shortly after- Harmoney closed it’s doors to retail investors.

Peer to Peer Experience

I started P2P investing in a similar way to my other investments. Jump in with a small amount and see how it goes. I did however learn early on that it was best to spread your investments over many loans to try and diversify your loan portfolio. I would only invest the smallest amount in any loan on each platform, $25 for Harmoney and $50 on Lending Crowd. And I stuck with the lowest risk grade loans available.

The other thing I learned quickly early on was that there was very low liquidity in P2P loans. Many of the loads I had funded from 2016 to 2018 had terms of 2 to 5 years. This means that I still have a significant chunk of money tied up in P2P even though I decided to stop investing in P2P in early 2018. Since then I’ve been withdrawing small amounts each month and re-investing it into index funds.

There was a combination of factors as to why I decided P2P wasn’t for me anymore. There was the fact that Harmoney decided to no longer offer loans to retail investors. The fact that there was a limited number of loans to invest in. And that there was just a lot of goddam admin involved. Always having to log on during the middle of the workweek to try and get the chance to invest some money. But one of the main reasons was that I realised that it wasn’t a great diversity strategy to have nearly 65% of my investments in P2P. I was one economical downturn away from seeing default rates skyrocket taking my investments with it.

Honestly- I wanted peer to peer to work for in my investment portfolio. Besides the decent returns- there was a part of me that felt good to stick it to the banks and finance companies and offer borrowers a more competitive interest rate. Lending Crowds interest rates start from 5.66%, whereas banks and finance companies start at around 9%. And I did see many loans whose purpose was debt consolidation. I may have been fooling myself into believing these borrowers were trying to become debt-free, but it made me feel better about peer-to-peer lending.

On the other hand,- P2P loans did make me feel a little dirty. The same feeling I have about finance companies and slumlords preying on vulnerable people. Sure there are situations where people despicably need money and are willing to pay +14% for it. There was just an icky feeling that I was profiting off their struggles. Or funding a borrower’s loan who really needs some education about the true cost of personal loans and saving, rather than enabling them to get stuck in a debt trap. On the other hand, if Peer to peer investors didn’t fund their loan, some other financial institution will fund it and profit.

My returns on P2P haven’t been that bad. Over the nearly 5 years, both my Harmoney and Lending Crowd accounts have achieved more than 10% returns. And my loan default ratio hasn’t been that bad. I’ve had no defaults on Lending Crowd and $842 worth of defaults out of $43,100 worth of loans on Harmoney. Or about 1.4% total defaults over both platforms.

My realised Annual Return (RAR) for my Harmoney P2P Loans- a measure of the actual rate of return on funds invested on the Harmoney Platform.

And if you compare my P2P returns to my index funds, they tend to be less volatile as well. My shares have had great years with +24% returns and bad years with -6.5% returns. All the while, my P2P stayed around 10 to 11%.

	2016	2017	2018	2019	2020	Average
Harmoney	11.02%	11.47%	11.38%	10.35%	11.47%	11.14%
Lending Crowd	11.20%	11.39%	11.41%	11.64%	10.20%	11.17%
Share Funds	N/A	N/A	-6.50%	23.81%	10.93%	9.41%

But I now believe that there’s an easier way to get similar long term returns through index funds. And Index funds have the bonus of being passive. I’ve added a table of what I believe are the pros and cons of index funds compared to P2P below;