Since its introduction in Australia in 2012, peer-to-peer (P2P) lending has opened the established consumer credit asset class to investors who are looking to diversify their investment portfolio, while providing greater control over their returns and a more stable investment than shares.
So, what is P2P lending and how does it work?
P2P lending businesses connect investors who are looking for attractive, stable returns with borrowers who are looking for a loan, without involving traditional intermediaries like banks. By leveraging technology and avoiding costs associated with maintaining a branch network, they’re able to offer better value to both the investor and the borrower.
While there are different marketplace models, the model offered by RateSetter works much like a stock exchange, with the best lending rate being the next to be matched to borrowers. To decide what rate to lend at, P2P platforms typically provide significant amounts of data to investors showing movements in the market rates and anticipated loan application volumes.
It’s important that investors realise that P2P lending is not covered by the government’s Financial Claims Scheme, like a bank account with a balance up to $250,000 is, so an investor’s capital investment is at risk. It’s therefore crucial to see how the P2P business manages credit risk. In the case of RateSetter, a substantial buffer against losses is provided through its Provision Fund, a pool of cash available to compensate investors in the event of borrower late payment of default. The Provision Fund is not a guarantee, but it holds over $10 million and has successfully ensured that no individual RateSetter investor has ever lost a cent of principal or interest since it commenced operations four years ago in Australia.
This model of investment has proven to be an appealing option for both investors and borrowers. A survey conducted by the Australian Securities and Investments Commission (ASIC) showed that the sector is experiencing significant growth, with more than $300 million in P2P loans funded in 2016-17 almost double the $156 million recorded in 2015-16.
Opportunities for investors
Through P2P lending, investors can enhance their investment portfolio’s risk adjusted returns. More specially, the opportunities and attractions include:
· Access to the world’s most established and largest asset class (loans): Previously, the loan asset class was generally only accessible to the big banks, so the introduction of P2P lending levels the playing field for retail investors.
· Attractive returns: The share market and property can deliver high returns, but P2P lending can offer competitive returns with lower volatility.
· Protection against default loans: P2P lending need not be risky. RateSetter lends only to creditworthy borrowers, with loss rates below those of banks (currently below 1.5 per cent per annum). Additionally, the Provision Fund has ensured no investor has lost either principle or interest, as any losses have been absorbed by the Provision Fund.
· Set your own rate: P2P marketplaces can provide investors with high levels of transparency and control. Investors set rates they are willing to lend at and the lowest rate on offer is matched to the next borrower loan.
· Efficiency: P2P lending platforms are designed to deliver more efficiencies and value to investors and borrowers. By combining an online platform and modern technology with a disruptive business model, operating costs and expenses can remain low. This means P2P investing has some of the lowest investment fees around.
For SMSFs, investors who don’t want their money sitting in a low-yielding cash investments or volatile shares and those looking to diversify their existing portfolio, the P2P lending sector could be an attractive is a new option that delivers significant benefits.
Daniel Foggo is CEO at RateSetter Australia.