Crowdlending is a risky investment
Like other investment forms, P2P lending and real-estate crowdlending come with associated risks. This post will introduce you with several classical investing mistakes that beginner and even advanced investors may make.
Basically, it all boils down to being patient, diversifying your portfolio, and having realistic performance expectations – don’t let greed cloud your judgment ! -.
Investing mistake #1 : investing money you need
Always consider your future financial needs before investing. Many P2P lending companies provide a secondary market, but you’ll usually have to sell your loans for a discount, thus losing money. Worse, if this feature isn’t available, your money will be stuck for a long time.
Also, what if things go wrong ? Crowdlending – especially in the Baltics – is mostly an unregulated area. There’s little or no supervision of platforms, which leads to an increased risk. Moreover, the higher returns (compared to most over investments) also inherently lead to higher risks !
As I’m updating this article in January 2020, there are severe doubts about Kuetzal. Let’s imagine the worst possible outlook : the whole platform is a scam and my whole money there is gone. My current allocation for this platform is 2.4% of my loans portfolio, meaning it would take me less than 3 months to recover this hypothetical loss using interests from other platforms.
Investing mistake #2 : investing too much in loans
As pointed out in the previous paragraph, investing in loans is risky – even in presence of a reassuring buyback guarantee -.
As a rule, I’d advise not to invest more than 10% of your assets in loans – make it 20% if you feel especially brave, or at the contrary if you invest only in conservative loans through highly reputable platforms. While this figure may seem small, it’s really important to always keep the risk factors in mind. What if there’s a large recession and most borrowers can’t reimburse ? Probably even worse, what if a platform goes bankrupt ?
I personally have around 10% of my assets invested in loans. Most of the remaining is invested in real-estate, under various forms – I actually have too much invested in real-estate, and not enough in stock-exchange, but that’s another topic –
Investing mistake #3 : investing too much, too early
Don’t be in a hurry ! I always start investing with a small amount, even with reputable companies. It takes time to get used to most websites; you don’t want to improperly invest your money because of a mistake in auto-invest configuration ! So, start small, and take time to get to know the platform. Once the returns satisfy you, gradually increase your investments.
Moreover, investing a lot of money in a short time makes it much harder to spread your capital between many loans, which will hurt your portfolio’s diversification.
When it comes to personal loans, I invest €20 max per loan; for business or real-estate loans, I usually stick to the platform’s minimal investment amount. One exception is my Envestio portfolio, because the platform has a small number of projects; I usually invest €200 per project on this platform.
Investing mistake #4 : investing too much in speculative loans
Last summer, one reader asked in the comments if I considered investing in Envestio as risky. My answer was clear (and is obviously valid for other platforms) : These investments are always risky (you don’t get 15%-20% annually without risk !).
If like me you have some appetite towards risk, it’s hard to resist the temptation to invest every time a new high-yield project appears. Who doesn’t want to make 18% or more, with the added safety of a buyback guarantee ? But of course, these high yields exist for a reason : these loans are highly speculative, and the borrower may default at any time.
Speculative loans (which I arbitrarily define as yielding more than 15% annually) make up around 25% of my loans portfolio. It’s a figure I’m comfortable with, mostly because it’s spread between several platforms.
Investing mistake #5 : investing too much in a single platform
It’s important not to put all your financial eggs in the same basket ! And even more if you plan to invest in speculative loans.
No matter if you want to invest in secured on unsecured loans, for a short or a long duration, in individual or business loans; there will always be several companies offering great investment opportunities. Signing up is usually very easy, so splitting your investment between several companies is a no-brainer.
As an indication, my maximum allocation in a single platform is around 15%. My current Omaraha allocation is well above this threshold for historical reasons, but I withdraw money every month in order to decrease my portfolio’s size.
Investing mistake #6 : not diversifying between loan originators
For peer-to-peer loans, it’s essential to spread your loans between different loan originators; indeed, these firms provide the buyback guarantee. But buyback is not infallible, so if one originator bankrupts, you don’t want to have all your money invested there !.
On the other hand (and for exactly the same reasons), investing through all originators available on a platform may not be wise. Several platforms (for example Mintos or Grupeer) now provide ratings for their originators, which will help you evaluate how risky they are.
Investing mistake #7 : not having enough geographical diversification
For business and real-estate loans, it’s now possible to have a small degree of geographical diversification. Indeed, while historically most Baltic platforms only lent to businesses in these countries, several of them started to fund businesses in Western Europa. For example, Crowdestor lent money to a UK company in order to finance fertilizer export; Wisefund funded a French second-hand goods company, while several TFGcrowd loans were granted to a Swiss “cosmeceutical” firm.
In a somehow counter-intuitive way, having a geographical diversification for personal loans may actually hurt your portfolio – especially for non-guaranteed loans -. My Omaraha Estonian portfolio performed much better than the ones in other countries (I eventually closed all other portfolios). Similarly, several investors at Bondora hinted that the performance of their Estonian loans was much better than for other countries.