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Why Peer-to-Peer Lending Was a Bad Investment

This is as much a post about peer-to-peer lending platforms such as Lending Club as it is about evaluating new investing platforms such as RealtyMogul or PeerStreet – the so-called crowdfunded real estate investing website.

Back in 2010 many physicians took $5,000 or $50,000 of their money and invested it in peer-to-peer lending. Their returns may have been nice at first but it quickly dropped off once larger companies partook. After taxes, delinquencies, and defaults, very little profit was left for the investor.

Alternatively, if that same investor took that money and invested it in a broad US stock index fund, they would have tripled their investment in 8 years.

 

Peer-to-Peer Lending

Peer-to-peer lending, abbreviated P2P, allows a private investor to lend out their money to consumers. You get to vet the investor partially through their credit history and can invest in $25 increments on a site such as LendingClub.

I did this kind of investing myself and had decent results. But nothing like the results I’ve had with index fund investing. Of course, this fact alone doesn’t mean that securities are better than P2P investing since I am using hindsight to make my decision.

P2P lending is unsecured lending. You are taking the person’s credit history and their word as collateral. Which is why there are decent default rates in such private lending endeavors.

Hard Money Lending

Hard money lending is a little different in that it often refers to a loan that’s backed by collateral such as real estate. I’m not sure how safe such an investment would have been in 2008 but it wasn’t as ubiquitous then.

Hard money lending is often used by a real estate developer or investor when banks or other lending sources aren’t viable options. This is why the rates are often a bit higher.

Such money lending is common on the crowdfunded real estate websites which are becoming popular in 2018 – just as peer-to-peer lending was becoming popular back in 2009.

 

Opportunity Cost

This discussion wouldn’t be complete without addressing the opportunity cost of the money invested in P2P lending. Let’s assume here that $10,000 was invested. That $10k invested in a fund such as VTI would have grown to $30,000 from 2012 to 2018.

 

Comparing this VTI investment to a P2P portfolio isn’t easy because each investor has a different portfolio of peer-to-peer notes. Back when I was following P2P closely, my peers were getting investment returns in the 7% range. My personal average rate before taxes was in the high 6’s.

The only people I read about who were earning in the 13-15% range were the ones who were writing about P2P investing and had a lot of affiliate links on their websites. I’m sure their strategy was more sophisticated than mine but I can brush off the biases there.

Investing in VTI wasn’t all peachy either. VTI didn’t shine every year. Some years were shitty (2011) and some years had 30%+ returns (2013).

Moving Forward

I’m not saying that the medical professional should stay away from investing in new investment opportunities such as peer-to-peer lending or hard money lending or avoid investing in crowdfunded real estate deals.

The point here is whether you are okay forgoing something slightly more certain for something much more speculative. If that investment return difference is negligible to your net worth then I think you should take the gamble if your risk tolerance allows it.

I have done both peer-to-peer investing and index fund investing. For me the latter has performed better and it’s probably less likely that I’ll benefit from jumping onto new investments in the future.

I have written my investing manifesto and have a good idea what’s right for me and what’s not. It’s a good idea to develop your own investing methodology.

If investing is all you do now and you are no longer relying on income from work as a physician then adding these new investing opportunities to your portfolio might make sense.

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