P2P Lending: A Bright Option Under Falling Interest Rate Scenario
P2P Lending- Option during falling interest rate scenario
Conservative and risk adverse investors are having a tough time these days. Pensioners and those who are looking for regular income have been sailing in the same boat.
Interest rates on fixed deposits are going down. Gold seems to have lost its appeal, and you would find this evergreen investment option on the losing side more often these days.
What about company fixed deposits?
The agony of investors is that the good companies don’t pay high interest and investing in sub-standard fixed deposit schemes endangers their principal. In coming days, this trend is going to get even stronger.
Let’s understand what’s driving interest rates and gold prices down.
As you may be aware, post demonetization, now the banks are flooded with deposits. As per RBI, banks have already received scrapped currency worth Rs 12.44 Lakh Crores as on December 10, 2016. Against that, as briefed by the Government, the depositors have already withdrawn Rs 5 Lakh crores. Even after considering that the supply of new notes would improve in coming months, there is a good chance that a large chunk of money that has flown into banks would stay with them in the form of deposits.
People’s acceptance of digital payment options would slowly reduce the dependence on cash. This would work in favor of banks. There wouldn’t be any urgency on their part to acquire deposits at higher rates unless credit demand picks up sharply. So, please don’t be surprised if interest rates on your bank deposits fall further.
FDs have turned unattractive
|Bank||1-Year-FD Interest Rates||3-Year-FD Interest Rates|
|Normal||Senior citizens||Normal||Senior citizens|
|State Bank of India||6.90%||7.40%||6.50%||7.00%|
|Punjab National Bank||7.00%||7.50%||7.33%||7.40%|
|Standard Chartered Bank||7.00%||7.50%||7.00%||7.50%|
|Tamilnad Mercantile Co-operative Bank||7.05%||7.55%||7.00%||7.50%|
|Ahmedabad Mercantile Cooperative Bank||7.25%||7.75%||7.25%||7.75%|
(Source: Respective banks)
You may have a close look at the interest rates offered on 1-year deposits and 3-year deposits. They are more or less the same for large banks. Banks see no merit in offering higher interest on 3-year deposits in most cases. In other words, they are confident that over the medium term they would be able to secure deposits at economical rates. If you adjust this interest income for taxes, your effective interest income will reduce significantly. Adjust that further for inflation, your gains are paltry.
FDs pay you negligible real returns
|1-Year-FD Interest Rates|
|Normal||Post tax (20%)||Post tax (30%)||Senior citizens||Post tax (20%)||Post tax (30%)|
|State Bank of India||6.90%||5.52%||4.83%||7.40%||5.92%||5.18%|
|Punjab National Bank||7.00%||5.60%||4.90%||7.50%||6.00%||5.25%|
|Standard Chartered Bank||7.00%||5.60%||4.90%||7.50%||6.00%||5.25%|
|Tamilnad Mercantile Co-operative Bank||7.05%||5.64%||4.94%||7.55%||6.04%||5.29%|
|Ahmedabad Mercantile Cooperative Bank||7.25%||5.80%||5.08%||7.75%||6.20%||5.43%|
|Maximum post-tax interest||5.80%||5.08%||6.20%||5.43%|
|Minimum Post-tax interest||4.48%||3.92%||4.88%||4.27%|
Trends in inflation
The RBI has set a target of achieving 5.0% inflation by the end of March 2017. The Government is hopeful of achieving the inflation target of 4.0% with a 2% margin of error over next five years. Going by the current trend it appears that, the general price rise in the economy would remain benign in the foreseeable future. This coupled with improving footprint of digital payment systems augurs well for banks and interest rates on deposits may stay lower for longer than expected.
Gold prices may continue to remain under pressure
After the victory of Donald Trump in the U.S.; the Dollar Index has surged unprecedentedly. Rising US$ acts a dampener for the precious metal prices. The Indian currency has stayed relatively stable against US$, at a time when other emerging world currencies have demonstrated weakness. Post Demonetization, cash-backed purchase of gold may decline and current lull in the prices may continue even in future.
Should you consider investing in P2P Lending projects?
Technically, a fixed deposit above Rs 1 lakh is not completely safe even with a nationalized bank. Therefore, it all depends on how intelligently you manage the risk.
Under falling interest rate scenario, P2P Lending still remains an attractive option for those who understand risks involved in this form of lending. Yes, P2P loans are classified as unsecured loans, but i2iFunding offers a unique feature of capital protection of upto 100%. Moreover, the meticulous credit analysis helps mitigate the risk.
i2i assesses borrowers using its proprietary credit score model on 0+ parameters to determine the risk category & corresponding interest rate.
Moreover, i2ifunding.com has created 6 risk categories in which it places its borrowers – Starting from A – the most credit worthy, it goes on to F – the least credit worthy.
If you were to invest Rs. 1 Lakh in Peer to Peer loans today, your investment would nearly double in just 4 years, even after considering adversities.
Now have a look at the table below.
(* Calculation shown in above table is done on the basis of assumption that, investor will reinvest the EMI amount in p2p loans every month)
The above table pertains to peer to peer loans on i2ifunding.com. As you can see, if you made an original investment of Rs. 1,00,000 then in just 4 years, the value of your investment would be Rs. 2.35 Lakhs in case of no defaults. The basic premise for these calculations is that the proceeds of EMI would also be reinvested in other loans.
What about default?
Let’s be real and acknowledge that there are chances that some borrowers may not be able to repay, in part or full. But you need not worry.
Continuing with the aforesaid example, even if you consider 5% default per year in your portfolio, value of your investment will still become Rs. 1.97 Lakhs.
Even in the calculations above, a 5% default rate has been factored in. So, yes you are almost doubling your money even if 5% of your investments would be defaulted by borrowers. (Note: Currently, there is less than 2% default on i2ifunding.com.)
Key Lessons to minimize risk and maximize returns on the p2p platform
- Diversify your investments across categories to benefit from higher returns.
- Divide your overall investment and lend to multiple borrowers even within the same category so as to minimize any default.
- Reinvest your payments regularly so as to benefit from the power of compounding. Don’t let the money be idle.
Using these simple strategies, conservative investors can earn smart returns without compromising much on the safety of capital. Since the repayment of loans happens through EMIs, unlike your bank FDs, your investment starts paying you back almost immediately—another positive.