In the face of trillions of dollars in American consumer debt and large American banks still posting record profits, more and more people are looking to take personal finance into their own hands. The concept of social lending, or peer-to-peer (p2p) lending, is taking off in a big way. By loaning money to one’s peers, people receive a return proportional to the risk of the loan.
Why is this intriguing for you?
Hopefully the following can shed some light on one of the fastest growing investments in the country. But right off the bat, you should be excited because social lending cuts big banks out of the equation, helps Americans pay down crippling credit card debt, and creates a new asset class that provides lenders with surprising returns on investment.
Real large debt
Source: Federal Reserve Bank of New York
Credit: Lam Thuy Vo / NPR
American debt has hit staggering levels and new sectors like student debt continue to rise drastically. As more Americans struggle to pay off their debt, and interest rates rise, we run the risk of another debt crisis and potentially additional recessions.
Through social lending, you can make micro-loans (as small as $25) to thousands of borrowers, thus spreading your risk. And thanks to Web 2.0, hundreds of people can combine to fund one loan, thus spreading the risk among the group.
With credit card rate averages at 14.5% nationally, one quickly realizes why people are looking elsewhere to borrow money and pay off other debt as quickly as possible. Through social lending, lenders can see returns around 10% and borrowers can receive a better rate than they would from many banks. It is the latest effort to return the power of money back to the people.
Real large growth
The largest social lending websites are Prosper and Lending Club with over a billion dollars worth of loans issued since inception. To focus on borrowers with the best credit, Lending Club declines about 90% of all borrower applications. This decreases risk and has attracted the attention of some high profile investors. John Mack, former chairman of Morgan Stanley, joined Lending Club’s board in April after loaning several million dollars through the website.
Real large returns
No, these are actually terrible returns. This is what you are receiving to securely lock your money away at the bank.
There is nothing wrong with keeping money at banks, especially local credit unions, but if you are looking for larger returns, and are still wary of the risky casino known as the stock market, social lending is worth adding to your investment portfolio.
These are the net annualized returns advertised by Lending Club broken-up by risk class (“A” is the least risky and offers the smallest return).
By lending money to each other, we can skip the unnecessary step of using profiteering banks, receive significant returns on loaned capital, and help others recover from out-of-control debt. People are taking personal loans into their own hands and profiting in the process.
Social lending is an exciting new asset class developing in response to bleak returns offered by banks and the volatility of the stock market. Given its potential, I would be surprised if it was the last asset class to emerge and fill the void between zero return and unreasonable risk.
Will Quinn is an environmental consultant with ICF International and his opinions are his own. He holds a B.S. in Environmental Policy Analysis and Planning from UC Davis, is the Blog Editor for the solar financing marketplace Mosaic, and is passionate about practical solutions to environmental problems. He believes people take action when personal benefits outweigh the barriers. And an impact investment that allows millions of people to go solar from their computers just makes sense. He is excited to be part of the solar crowd and hopes you are too.