Friday, February 19, 2016

My Peer Lending Accounts: February 2016

If you are going to be a financial blogger, you have to decide how much of your financial information you are going to make public.  On the one hand, I know that when I read blogs, I like to see people with whom I can identify.  To me, it seems like it would be easy to save money if you have income that is twice mine (though I know that many people in that income bracket have expenses that are twice mine as well).  Also, if you are going to tell me how I should invest my money, I'd like to see some evidence that you are successful at managing yours.  On the other hand, I'm not comfortable spilling all the information about my income and net worth.  To that end, I've decided that there are certain investments about which I will be writing.  I'm going to give you some idea of how important they are to me, and will detail my earnings and losses.  On other investments I'm going to talk about percentages.  My Peer-to Peer Lending accounts are accounts on which I'll be making full disclosure.  As to how important these accounts are to my net worth, I'll just say that these accounts are our next two cars (we buy used).  Losing every penny might not be catastrophic but it would definitely hurt.

What Is Peer-to-Peer Lending?

Peer-to-Peer Lending, a/k/a Marketplace Lending is an online marketplace where those who want to borrow money can do so, if they qualify, and where those who want to invest money can do so by purchasing all or part (usually part) of those loans. As the borrowers pay off the loan, investors receive payment of principal and interest.

My Investments:


I put $5,000 in Prosper at the end of 2014.  I added $5,000 each on February 16 and March 23.  On January 30, 2016, I deposited $300.  As of February 9, 2016, the account is worth $17,005.97, meaning that in a little over a  year, I have earned $1705.97, which has all been reinvested.  This portfolio has always been auto-invested using tools on Prosper's website.   About 1/3 of it is in A and B rated loans.   According to Prosper, my annualized return is 13%.  However, right now I have thirty-nine late notes; the question is how many of them will default.  Prosper does not publicly predict this. Rather, Prosper breaks down your return by "All Notes" and "Seasoned Notes".  Experience has shown that most borrowers who default do so relatively early in the life of the note.  Prosper considers notes to be "Seasoned" by 10 months; after than, in their experience, returns stabilize for a given vintage and do not drop quickly or significantly.   My seasoned returns are $13.41% because my early purchases did not include A and B notes.  To put that number in perspective, the average yield of my notes at acquisition, in other words, not accounting for defaults, was 17.09%.   

Lending Club:

Lending Club was my first foray into Peer-to-Peer Lending.  I've done a lot of different things within this account, frankly to the point that I've lost track of some of them.  Some of the notes were purchased to attempt to get a high yield.  Some were purchased with safety in mind.  Some were new when purchased; others were bough on the resale market. In total, I invested $17,550 between July, 2015 and March, 2015.   Lending Club shows you two different rates of return.  The first is the rate that is comparable to Prosper's--a rate that does not penalize you for late notes until those notes are actually charged off.  As of February 9, 2015, that rate is 10.76%.  Lending Club also offers an "adjusted" rate of return, which writes down late notes by various percentages based on how late they are.  It is a hypothetical return--the write down doesn't actually happen, but it is supposed to give you a more realistic view of your likely returns.  My adjusted rate of return is 7.93%.  My current account value is $19,405.45, which is adjusted to $18,919.69.


It is difficult to get a number to use to compare Peer-to-Peer results with other investments.  When I buy stock, 100% of the money I invest in that stock goes into that stock (minus any sales commission).  It stays there until I sell the stock.  I may also get dividends.  When I sell the stock, I know how much I made (or lost) and how long I owned the stock. While I may move in and out of the market, it is not something that most normal people do multiple times daily.  With peer-to peer lending, I invest a sum of money.  Once it hits the account, I select notes in which to invest--either manually, or using one of the automated systems.  Depending on how much money I want to invest and how many loans are on the platform that meet my criteria, it can take one day or many to totally invest the money. However, once the notes are chosen, it may take up to ten days to complete the funding process, or either the platform or the borrower may decide not to complete the loan.  If that happens, then the money I invested has to be re-invested in another note.  It took me over a month to completely invest $5,000 at $25 per loan.  Interest does not start accruing until the borrower has the money. Once the borrowers start paying, the platforms take 1% as their fee.  Also, late fees can be collected, and of course, some borrowers quit paying and the notes are lost.  Finally a lot of notes are paid off early.  When the notes are paid, the money received is not earning interest until it is re-invested.  As of this writing, I have about $400 in uninvested cash and committed to notes which have not been finalized in Lending Club, and I'd say that's a pretty average figure for me.  This phenomenon which is referred to as "cash drag" means that even though Lending Club says my return is  7.93%, it is actually less than that because a certain amount of money is earning no interest at any given time. Despite the difficulties, there are several methods people use to compute returns:

Using the platform figures:

This is the easy way.  While it does not take into account uninvested cash, it is accurate as far as the notes themselves go and it gives you a benchmark to compare to the platform.  The "seasoned" returns for Prosper and the "adjusted" returns for Lending Club are more accurate than the gross figures.

Computing the difference and annualizing it:

If you are not adding to or subtracting from your account regularly, this method is easy.  Simply review your monthly statement and see how much more (or less) money you have at the end of a period than at the beginning, and then annualize that number.  My Lending Club figure, computed from March forward (since that is the last time I contributed money) is 10.22% and that does not account for late notes.  For Prosper is is  11.54%.  


This is a mathmatical computation that can be done on spreadsheets with the right formula or can be done online here.  It views the account as a whole and takes into account money that comes into the account and goes out of it.  Depending on the final value you assign the account, it can take into account your likely losses on late notes.  For Lending Club, my XIRR return is 7.24% using the adjusted value of my account and 10.11% using the actual value.  For Prosper, the return is 11.71%


In short, for accounts with no principal infusion for eight months, my XIRR returns are about 1% less than the returns quoted on the platforms.  Nevertheless, over the last year, this has been my best performing investment.

Should You Invest?

Maybe.  In some states, those who invest in peer-to-peer notes are required to have at least $70,000 in investable assets.  I've read that it is recommended that no more than 10% of your investable assets be in peer-to-peer lending.  I've also read that the best way to protect against substantial loss is to diversify, meaning to purchase at least 100 notes. Prosper claims that since July, 2009, no one who has purchased at least 100 notes has had a negative return (Prosper's system was vastly different prior to July 2009).  Lending Club states that historically, less than 1% of those who have invested in at least 100 notes have had a negative return. If you have few investable assets, peer-to-peer lending is too new and too risky for you.  On the other hand, if you have $2,500 or more that you can afford to lose, Lending Club and Prosper offer the possibility of returns far higher than bank accounts (with much more risk), and because of the monthly payments made by the borrowers, they can be set to return substantial cash to investors relatively quickly.  For example, between January 1 and February 9, my account has paid over $1,600 to me in principal and interest.  While I've reinvested it, I could have withdrawn it if I needed it. 

How to Invest?

I would recommend going to either Prosper or Lending Club, opening an account and investing $2,500.  Use that money to purchase 100 notes spread over different risk levels using the auto-invest feature.  Then, sit back and watch.  See how defaults affect your returns.  Watch the interest accrue.  Read articles about filtering and check out some sites that do it for you like NSR invest or Blue Vestment.  Decide going in that you are going to leave your money there for at least a year, and that the money you invested is money you can afford to lose.  After a year, review the situation.  While most people find that the higher potential return of C, D, and E notes makes them a better investment than A and B notes, others hate the idea of loss of principal and so prefer to stick with less risky notes.  After a year you should be in a position to move your portfolio toward your preferred risk/return profile.

I have found peer-to-peer lending to be a valuable addition to my portfolio and believe it is appropriate for many people; however, I am not a financial adviser, and realize that no investment is right for everyone.  Use your own best judgment; no one cares about your money as much as you do.  
Disease Called Debt

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