Simple Way To Improve Loan Selection & Lower Risk
Until more P2P lending websites have a longer record, searching for patterns to improve loan selection is not possible at most of them. But there's one way to select loans that I think will work everywhere.
Keen investors like to scour through past loans to try and find patterns that help them select lower-risk loans.
You might find, just for example, that loans that are being paid on time and have been running for at least six months on one P2P lending website have a far lower chance of going bad.
So if you can buy part of that loan from another lender without paying a premium, you will have invested at lower risk than the original investor, but earned yourself the same interest.
Buy 100 such loan parts, and your loss rate will be lower than average and you'll therefore earn more interest after losses.
Which P2P lending companies let you do this?
It's not possible to search for patterns in loans everywhere.
Instead, they aim to choose well on your behalf and then help you spread your risk across lots of loans very quickly.
The big problem with pattern spotting
The problem is that most peer-to-peer lending companies are too new for you to be able to analyse the loans in this way to spot reliable patterns. Because you need an awful lot of loans in order to be confident that a pattern hasn't emerged by pure chance.
If the total past loans are measured in hundreds rather than many thousands, most patterns you think you see are highly unreliable.
You also need a lot of time to pass, to ensure that any patterns you observe aren't just relevant to the current economic situation.
The one pattern that is always significant
However, there's one sign that I think is always a good one, regardless of which P2P lending websites you like to use.
That is when business or property borrowers are being highly open and transparent about their businesses.
You want to see that your borrowers have provided a great deal of information and that they answer your questions completely. If they appear to talk openly about the risks and other potential downsides, even better.
If owners and directors are willing to be open and provide lots of details, it suggests they are excited and interested about their businesses.
Naturally, some of them will just have the gift of the gab and others won't even realise their views of their businesses are unrealistic. In short, a good number will be blagging it.
But consider the flipside: you must worry about borrowers who provide short descriptions and don't appear to care about letting lenders know what they need to know, and more.
Because those who write nearly nothing about themselves and their businesses are always worrying. There's nothing ambiguous about that lack of information.
It could be sensible to assume that they don't want you to know the nitty gritty or they don't understand it themselves.
This is just one sliver of your lending strategy
Selecting loans based on the quantity and quality of information you're provided won't always work. In fact, it probably won't work too often. But it doesn't have to. It just has to boost your success rate slightly to have an impact.
If the loan selection decreases your bad loans from 1 in 100 to 1 in 110, it's a modest but useful improvement.
If the resulting lower losses from that boost your overall return by 0.5 percentage points per year, you could be £500 better off in ten years on £10,000 of lending.
So this is just one small part of a strategy that still involves spreading your money across many loans – hopefully over 100.
You can always go back and add more loan selection criteria as and when your chosen P2P lending services have a longer and larger history.
Further reading to boost returns while lowering risks:
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