Am I going to Prosper with

It’s close to 18 months to date since I’ve joined and started Peer-to-peer lending. My hope was to be able to get a better return than what I would be getting from a typical bank deposit, but with not as much potential violatility as stocks. It was also an experiment to see what problems, difficulties, etc. may come up durng the process.

Surprisingly, things have been pretty smooth, and I’ve been able to generate about 7.4% seasoned returns, or a 7.7% overall return. So, I felt it was time to share in my experience, some of the strategies I deployed, and hopefully, others can benefit, or can suggest improvements in my methods!

Q3 2013-2014 returns
Before jumping in head first, I did read others’ experiences and “best practice” strategies. From the info, I concluded that:

1. To be successful with P2P lending, you generally need to split your original investment between (100+) loans. From each of these loans, you would be given a “Note.” Knowing that most notes will not default – but not knowing exactly which notes will default – having a larger number of notes will help minimize the overall risk of loss.

2. Higher risk does not mean higher return. The general problem is that as risk increases, the chances of a loan default also increases. It’s best to stay in the A or B grade loans, or with select C or D loans only if it meets certain characteristics (more on that later). E or HR are generally not worthwhile – they are likely lendees that have been rejected by banks, have too high debt-to-income ratios to be considered for a bank loan.. long story short, the risk is too high to be considered. (i.e. you’ll likely lose money)

3. Keep reinvesting the funds as loans are paid back. Did someone pay back the loan? That’s great – but it’s also time to reinvest those funds!

Armed wth the above knowledge, I took a small sum of $3500, and as a experiment / test – set to lend out (100) $35 loans. Surprisingly – the process was pretty simple and painless!

Using the built-in Prosper search engine, I was able to narrow down the potential loans to only AA to B class loans.

From here, I sorted by the amount of interest offered, purchased the highest interest loans from the AA, A, and B classes. After about an hour or so – I was the proud owner of about 100+ Notes!

List of my Prosper notes

After that – there’s honestly not much to do. As per #3, check in every so often, reinvest what’s been paid back – and repeat!

So after about 18 months, what do I like about the Prosper and P2P lending experience? Pretty much everything! Some huge pluses:

1. Filings during tax time is pretty easy – you get handed a SINGLE 1099-OID to handle ALL of your notes! Unlike individual stocks / mutual funds, all transactions, earnings, etc. is tracked with a single entry into your favorite tax software. Simple.

2. Since Prosper is all web-based, you can check progress, buy new notes, etc. at any time! I usually do ths during my weekend downtimes, when there’s a boring movie on, or nothing else better to do. It’s nearly passive, and…

3. Compared to the return rate that someone gets at the local credit union (an outstanding 1% /s) – the additional (minimal) effort is well worth while.

Now, some of the minuses (which I felt were small):

A. Any gains are taxed yearly via the 1099-OID, so it doesn’t enjoy tax deferred compounding like stocks / mutual funds. However, I see Prosper / P2P as an alternative to CDs, savings, or money market accts – all of which are taxed yearly anyway.

B. Any money put in are usually put away into 3-5 year notes, so if the cash is needed shortly, CDs, money market, or savings accts would be better. However – Prosper has an integrated “Note Selling” market – so that if you need to liquidate, it’s always an option. With proper planning, this shouldn’t occur.

Since the start, I’ve added some criteria to narrow down the loans I will lend to / notes that I will buy, to, namely, minimize risk of default, as follows:

– Credit score between 620 to 990
Statistically speaking, folks with fair-to-high scores are more likely / more incentivized to pay on time keep their scores high. The lower the score, the less likely timely payments will occur.

– Accept C and D loans
C and D loans offer much higher interest. As an additional variable in this experiment, I’d like to see if C and D class loans will fare better in net total returns (defaults included), then simply going after AA, A, and B class loans.

– Deliquencies = 0
To further minimize risk, I’m only viewing loans / purchasing notes from folks that have 0 deliquences. Chances are – if they’ve missed other loans, they’ll likely late (or just not) pay yours too.

– Bankcard utilization < 90%
A 90%+ utilization usually indicates all other credit lines are tapped out. Chances of an imminent late payment / default is quite high, with just my gut feelng. It’s another setting I’m adding in for risk mitigation – let’s see if it pays off.

So far, all is well with these new loans – but to be very frank, not too much time has passed at all (i.e. less than 3 months) since I’ve implemented these changes, so I will write again around Q3-Q4 of this year with the results, regarding:

– Net Results from Q3 2014 (since changes were started) to Q3-Q4 2015
– For loans that defaulted, what were their common characteristics? Maybe C & D loans are still a bad risk, regardless of credit score, and having no deliquencies?

Stay tuned!

~ Steven W. C.

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