The set-up is a win-win:
- Borrowers get access to funds they wouldn’t otherwise be able to get, or get a more attractive interest rate.
- Lenders (investors) get a return on their money far better than savings or CD rate (though not without greater risk).
As of this writing, LendingClub is projecting returns ranging from 5.11% to 9.29%. Prosper offers the projected range of 5.65% to 11.08%. That's a great return!
And both parties, borrowers and lenders, could participate without involving any big banks, credit cards, or Wall Street.
But what was envisioned and sold as a person-to-person network of debtors and creditors has become largely swallowed up by institutional investors.
How Big Banks Are Influencing Peer to Peer Lending
On the lender side of the equation, big institutional investors are buying up the highest-returning notes at record pace.
In the past, both Lending Club and Prosper trumpeted their “fractional ownership” model, which capped out each investor’s stake at a maximum of 75% per note. But in the past 2 years, both companies have introduced “whole loan” lending, allowing institutional investors to buy up complete notes in bulk before they ever reach the public market.
Within just a few months of Prosper’s Whole Loan program launch, nearly two-thirds of their total originations were fully funded before individual investors even had a chance to view them.
Aside from institutional investors jumping on board, individuals are joining the party in record numbers too. The news of Lending Club’s profitability and Prosper’s latest round of venture capital have made the investment vehicle seem less risky.
The Impact of Changes to Peer to Peer Lending
So what’s the impact of all of this for the current and aspiring individual peer-to-peer lending investor?
Because there are more investors, fewer notes will be available that fit your target risk profile. That means you might have to invest more on a per-note basis in order to keep your cash in use.
As the notes with the highest performance profile are snatched up before hitting the open market, or within seconds of being listed, regular investors are relegated to a less attractive portfolio.
More Idle Cash
Another component of lowered expected returns is an excess of idle cash. If you aren’t comfortable with increasing your invested amount per loan, and can’t find enough loans to invest in, you’ll be sitting on cash in your account earning 0%.
No Surprise, Really
With several prominent individual investors championing peer-to-peer lending as a place to find 10-15% returns, monthly cash flow, and diversification from your stock market portfolio, it’s no wonder that demand is outstripping supply.
The value proposition of peer-to-peer lending may have been more lucrative in the past, but the popularity and stability are certainly positive signs for the future. The marketplaces are becoming more efficient as more historical performance data accumulates, and investors large and small can build a portfolio of notes that suits their needs.
The days of such heady returns may be numbered, but peer-to-peer lending can still be a great cash-flowing addition to your portfolio.
Do you do peer-to-peer lending? Do you buy whole notes or fractional notes? Does it bother you that big banks are getting in on the action in record numbers?
Nick Loper is an author, entrepreneur, and has been a Prosper.com investor for the last 3 years. His latest role is Chief Side Hustler at SideHustleNation.com, a growing community of part-time business owners. Need a leg-up in getting your biz off the ground but short on time? Grab Nick’s free “Cliff’s Notes”-style guide to the world’s best business books here.