It’s an exciting time to be alive.
Technology is changing the way we live our lives and disrupting many old industries.
This is happening even in the finance industry.
These new ‘FinTech’s’ as they’re called, are changing the way we borrow, shop, pay for things and even invest.
Change is the only constant as they say, so it’s best to keep an eye out for possible investment opportunities.
One in particular caught my eye a while ago, called Peer-to-Peer Lending.
What exactly is Peer-to-Peer Lending?
Well at the risk of sounding too simple, it’s exactly as it sounds.
Peer-to-Peer Lending is an online platform where borrowers and lenders are matched up, creating loans for an agreed period of time.
Think of it like a money match-maker!
It’s a lot like opening your own banking business, where you are lending your money to other people and businesses, receiving principal and interest payments in return.
The reason this technology is effective is because, by creating an online platform, the Peer-to-Peer Lending companies can operate at a much lower cost as they don’t have to rent large buildings and shopfronts filled with employees all over the cities, like banks do.
These cost savings mean lenders can earn higher returns rather than having their money in the bank.
On the flip-side, borrowers can borrow at lower rates with more flexibility, compared to a traditional lender.
The platform provider ‘clips the ticket’ on the way through and takes a fee out for matching the loans and doing credit checks on the borrowers.
Each party benefits as a result of this technology.
Why did we choose Peer-to-Peer Lending?
After selling a property recently, we had a lump sum of cash that was destined for dividend-paying shares.
Although, we needed some of the money to live on and I was a bit wussy about throwing it into the sharemarket all at once.
We could have plonked it in our offset account and drip fed it into the sharemarket, but I thought I could optimise it a bit further.
By using Peer-to-Peer (P2P) lending we could earn a much higher rate than we would if the cash just sat in our offset account.
We could also use the monthly payments to live on, invest regularly in LIC’s and give us more flexibility over when we offload our other properties.
Out of the growing number of these online platforms, I decided to go with RateSetter.
For a start, they are one of the biggest P2P platforms in the world.
They started in the UK in 2009 and opened up for business in Australia in 2014.
Importantly, over that time-frame, not one lender has ever lost money.
Now, that doesn’t mean it’s a risk free investment or the returns are guaranteed, but it does mean that they have a very good track record with managing risk and approving creditworthy borrowers.
RateSetter were also the first company to open their doors to all ‘Mum and Dad’ investors, letting us ‘retail’ investors in on the action.
Now anyone in Australia can get setup and start lending with only $10, which is excellent.
Some P2P lending companies are only open to the big end of town and high net worth investors.
After digging around their website, I was genuinely surprised and comforted by the transparency they provide.
There’s not much you can’t find on their website, but I still had some questions.
I contacted them directly, asking them a ton of stuff on the ins and outs of the platform.
They were very patient and took the time to answer all my questions until I was satisfied, so the customer service was a big tick.
RateSetter was the first P2P lending company globally to introduce the concept of a ‘Provision Fund’.
The Provision Fund works like a safety net.
As each loan is approved, the borrower is asked to pay a fee according to how risky they are deemed to be.
Then, basically the fee is popped into a big security bucket called the Provision Fund.
If and when some of the loans go into default (which is inevitable with any borrower/lender situation) then the Provision Fund kicks in to cover the loss and the lender receives their regular payment and will be none the wiser.
This is no guarantee, but again RateSetter has shown to be quite prudent and have plenty of coverage in the Provision Fund, helping to ensure every lender has received their principal and interest payments.
To my knowledge, they are the only Peer-to-Peer Lender in Australia with a Provision Fund in place to protect lenders.
One of the things I like about RateSetter, is how open they are with their data.
Generally, what you see is what you get.
They make available mountains and mountains of statistics and data about loans matched, default rates, provision fund balance, amount lent, average age and income of borrowers and lenders.
You get the idea.
A lot of people are pretty untrusting of financial companies (sometimes for good reason), so it’s refreshing when a finance company is open and transparent.
If you like, check out their stats here.
Now the fun bit.
Let’s look at how much we can make by becoming a bank.
Here are the current lending market rates as of today (01/06/17).
As you can see, the interest rates are far better than the banks are offering on a term deposit.
It can be a pretty effective income stream for those on lower tax brackets.
The trade off is, that your money is tied up and you can’t access it. It is lent out after all.
Once the monthly repayments have been made by the borrower, they become available in your RateSetter account.
You then get to decide whether you reinvest some of it, all of it, or none.
Who chooses the rate?
You do. Well, the marketplace does.
You’re free to set your desired interest rate at whatever you want to lend at, but it will only be matched if a borrower is happy to accept that rate.
This is people power in action.
Borrowers and Lenders can scale up or down their desired rate they are happy to borrow/lend at.
Choose a rate too high and your money will just sit there.
By meeting the market at the going rate, your money will be lent out relatively quickly.
Currently, the lending rates are pretty appealing.
Although, rates could be lower in the future if more people choose to lend money on the platform and the supply of money pushes rates down.
Who am I lending to?
You will be lending to borrowers who have been approved by RateSetter and deemed creditworthy.
This could be individuals or businesses.
You don’t get to decide who you are lending to, which at first I wasn’t happy with.
But after a while I realised it’s probably better that way.
I would probably over-analyse the different borrowers and try to pick the least likely to default.
It’s extremely unlikely I would do a better job than RateSetter.
There is plenty that is within your control though.
You decide how much you lend, the interest rate and how long you’re lending the money out for.
At any time, you can see the live dollar amounts of borrowers/lenders on the market.
I was first concerned about the risk of having too much of my funds allocated to one loan, therefore perhaps being at a high risk of losing money.
The first layer of protection is the relatively low default rates on the platform so far and the provision fund that is in place.
Second is that you can choose to lend your money out in increments if this bothers you.
If you have 5k to lend, you can lend out 1k at a time.
Also, once you have been on the platform for a while, if you have reinvested any funds, you will end up having lots and lots of little loans.
This spreads your risk by being exposed to a diverse set of borrowers.
There are plenty of other risks which RateSetter outlines for you here.
In particular, I would be interested to see how default rates hold up in a recession.
Please read about the risks and make sure you’re comfortable before diving in.
Recently, it was announced that RateSetter are opening up a new lending market on the platform called Green Loan.
This gives lenders the ability to choose to lend to borrowers who are seeking finance to purchase ‘Approved Green Products’.
These include solar panels, low emission vehicles, energy efficient lighting plus air conditioning and a range of other things.
Currently it appears the loans will be for 3-7 years and the interest rate for lenders looks to be around 6%.
The Greenie inside me is super excited about this option.
Supporting clean energy and making money at the same time is a match made in heaven!
There’s more I could go into but I will leave it there for now.
If there is anything you want to know more about, there is an abundance of information on the RateSetter website.
For anything else, give them a call. I found them to be quite helpful.
Our experience with P2P Lending and RateSetter so far has been a good one.
We have a decent amount invested on the platform and it works smoothly.
It’s easy to use, offers competitive rates, good transparency, flexibility, customer service and even a safety net in the Provision Fund.
It is far from risk free, but I do believe it can play a part in an investment portfolio.
Remember, you can start with a tiny amount, get the feel of it and then go from there.
Starting a business with $10 is a nice option, especially one that will be earning positive income from day one!
One thing I will say is, it sure is nice to be on the other side of the banking table.
It’s nice to be the bank for once 🙂
If you’re interested, you can start your own little banking operation today!
*Special Offer – RateSetter are offering readers of this blog a $100 signup bonus!
When you use this link to signup and invest $1000 in the 1 Year Market (or longer), you’ll receive a $100 bonus.
This blog will receive a bonus too, so thank you 🙂
Note – RateSetter runs a report at the end of each month to see who has qualified, and they make the payment within a week of this.