All investments include some type of risk – no investment is 100% foolproof, but P2P lending does pose some unique risks you may not face elsewhere. Knowing how to minimize your P2P risks and how to take the proper measures can help you make the most out of your investment.
The first rule and this applies to any investment – diversify your funds. You can do this a few ways with P2P lending:
- Only invest a small amount in each loan, choosing loans of varying risk levels within the same platform (some platforms allow investments as low as $25 per investment)
- Invest in multiple P2P platforms, so that you diversify your risks not only among investments but among platforms as they too can become insolvent
Knowing the Platform
Do your research, understanding how various platforms operate, including how they handle defaults. Know what order you’ll get paid if you invest only a small portion of the loan and what happens when a borrower defaults. What’s their procedure to handle defaults and how do they reduce P2P risks?
Don’t Invest only in P2P Loans
Peer-to-peer lending offers great returns, but they aren’t promised. Interest rates, default risks, and complete platform failure are real risks. Only invest a portion of your available funds in P2P lending, saving the rest for other investments, such as stocks, bonds, or even something as safe as CDs.
Know how to Choose Borrowers
Just because a platform deems a borrower ‘non-risky’ doesn’t mean you have to agree. Find out what a platform uses to determine a borrower’s risk level and see if you agree with it. For example, inquire about their credit score ranges, debt ratio requirements, employment, and educational background requirements.
Invest only What you can Stand to be Without Long-Term
Peer-to-peer lending isn’t a short-term gig. You invest the funds for the term of the loan. Some platforms do have secondary markets that allow you to sell the loans, but you may walk away with a loss. The idea is to stay invested and to keep reinvesting your earnings to keep the ball rolling so to speak. This way you’ll compound your earnings and walk away with higher earnings than you would have seen from other investments, such as stocks.
Limit the Cash Drag
Don’t overfund your peer-to-peer account. It’s easy to get overzealous and fund as much as you can, especially when you see the high rates of return. Instead, fund only what you can handle sitting in your account ‘untouched’ until a loan comes along. If you can, only fund your account when you find loans to invest in to avoid leaving cash sitting untouched and not invested.
You can reduce P2P risks, increase your profits, and ensure a more seamless experience with the right steps. Every investment has its risks, but knowing that you can minimize the risks and have a bit more control than you would in the stock market makes P2P lending a great way to diversify your funds.