Nov
5
Should I Be The Bank?
November 5, 2007 | 2 Comments
I have been lending money at Prosper. (P2P lending where lenders spread their risk among many borrowers, and borrowers get a chance for better interest rates than they get charged at banks). I increased my loan portfolio to $3,000 and may increase it a bit more early next year. I still have the goal of earning an effective rate of 8% (after fees and defaults). That should be a bit better than depositing at the bank and than corporate bonds (without going into junk bonds). My strategy keeps being the same: $100 loans to B, A, or AA grade individuals with no reported delinquencies or public records. By the time I reach $10,000 invested in prosper I should have at least 100 loans so that no single loan default will wipe out more than 1% of my invested loan portfolio.
Challenges Found
The main challenge I have found is with the time spent managing the portfolio. Once the loans are done, there is little management to do (or even possible). But before the loan is created you have to spend time reviewing loan profiles for the selected criteria, weeding out the fishy stories, and then making a bid. More often than not people outbid you (good for them!). This makes you spend extra effort finding a new potential loan. On top of that, about 1/3 of the loans are canceled because they can’t verify the information provided by the person requesting the loan. This means again: more searching and bidding. Lots of time spent.
From an educational standpoint, it helps to do this process of searching for a loan. It helps you hone your skills. From the standpoint of time management, it is a pain. Your money may sit in the prosper account unused for days, until you get the time to put it to work.
Maybe I will try an automatic bidding process in the future. I do not feel I am ready for it yet.
Do I like Prosper?
It is two early to say. The oldest loan is about two months old. All of my loans are current. I think I am doing better than the people who start bidding on 30% interest loans to D or E rated people. Not that there is anything wrong with that segment, but it probably requires a lot more experience than what I have. I am still keeping myself to the above B segment of the population.
One thing I do not like about prosper is that even people with AA or A credit ratings have delinquencies. In my books, anyone with a delinquency can’t be a top candidate. I know everyone deserver a 2nd chance, maybe a 3rd. But finding people with 6 delinquencies or a few public records and still in the A rate makes me doubt about Prosper’s rating system. It may be based on a conflict of interest in which they do want people to loan money to other people (otherwise, they do not make money). It does not helps, in my opinion, to protect lender’s interests. I still think that the number of delinquencies and public records say a lot more about someone’s ability and willingness to pay a loan than the letter code that Prosper uses.
Will keep you posted on my Prosperity progress.
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I tried Prosper with a “test” $500 and I wasn’t impressed enough to put in any more money. I did research on it, including reading blogs, lurking in the forums and looking through the stats at the various lending stats sites. The bottom line is that there are much better investment opportunities out there then Prosper.
Here are the main problems I saw:
1. Liquidity. Prosper loans are one of the least liquid investments I’ve ever seen. All loans are for 3 years, and there is no secondary market, so there is no way to get your money out other than waiting for the borrower to pay it back. Even if you sign up for a 10 year CD, there it is still possible to cash out early (usually by giving up a few months of interest).
2. No interest on cash in your account. Most investment accounts have a way for you to put your excess cash into some sort of money market fund, but Prosper doesn’t. Any time that your money is not in an active loan (including the time Prosper takes to verify a loan after it has funded), it does not earn any interest. This also means that if you stop lending on Prosper a year from now, you still have to login all the time to transfer your earnings back into your bank account.
3. Too many lenders. Lenders have to login constantly to manage the money that they earn from their loans, and they usually put the earnings back into new loans rather than transfering it out. There are many more lenders on prosper than there are decent loans to fund, which drives the rates on the loans down to unprofitable levels. Also, because there are so many lenders on Prosper, Prosper itself has no reason to try to keep lenders happy. They are much more likely to try to make Prosper more friendly to borrowers, since that will make them more money.
4. Ineffective collections. Prosper handles collections on deliquent loans, and they don’t really have much incentive to spend much money on them. Let’s say I have a $5000 loan on prosper, and the borrower missed a payment. Prosper itself only stands to make less than $100 on the loan, because they only take a small percentage of each payment. I on the other hand, stand to make more than $5000 on the loan if the borrower pays it. It doesn’t make sense for Prosper to spend more than $100 dollars trying to get the loan current, because that’s all they can possibly make, whereas I would be willing to spend closer to $1000 if it was up to me. If you look at the collection statistics, Prosper is nowhere near the industry averages because they spend next to nothing on collections.
These problems combined are just too much for me to put any more money into. I’m seriously doubtfull that C or lower grade loans will even be profitable over the full 3 years, and it will be difficult to get a true 8%+ return on just AA, A, and B loans. If you adjust for defaults, taxes, and inflation, your real earnings will probably around 1 or 2 percent. Most other options, such as a long-term CD, high yield bonds (including municipal bonds), or stock market investment would probably give better long term returns with more liquidity.
How do you handle the tax implications of the interest you get off the loan?
Does prosper send out a w2 or something?
Seems like it might be more of a hobby (that requires alot of work) than a good investment. But if you have the patience and time, it might work out.
Problem is the more money you have to “invest” the more time and searching you will have to do…especially when most people are only providing $50-$100 a loan.
What if I wanted to put in like 25 or 50 grand? is it even feasible?