Is P2P lending a good way to make money?
With declining interest rates from banks, it is no longer encouraging to park savings into bank accounts. In fact, with inflation rates rising every year, we were always losing money leaving it in our banks. Clearly this wasn’t what we need if we’re looking to grow our income to obtain financial freedom. Yield oriented investors are constantly withdrawing funds from their bank accounts and considering different options where they can lend their money easily and earn interest on it.
There’s an entire market available with people needing money for the short term. Be it to pour into their businesses or for even personal purposes that don’t fit into the eligibility provided by banks. Simultaneously, there are people who are willing to lend in order to earn higher interest earnings relatively. Peer to Peer lending (or P2P lending) as an investment has cropped up looking at this opportunity to connect both parties.
With the advent of technology, platforms like i2i Funding do this job of connecting a borrower to a lender, where both can satisfy their financial needs. They offer borrowers lower rates of interest than bank loans. On the other hand, lenders earn 2 or 3 times more interest than what a term deposit would pay. It’s a win win!
Both the parties tend to gain by entering into such contract. As an investor, you are not fully funding any loan, and can specify the amount of risk you wish to take. P2P companies help spread this risk. Say, if the borrower needs a loan of Rs 50,000, 5 lenders can lend him Rs 10,000 depending on the risk they wish to take depending upon the borrower’s risk category. Diversification reduces the risk of defaults and losses.
Let’s look into some other reasons which makes P2P lending an attractive option to make money.
#1 – Higher interest rates
Any investment makes sense if it is able to provide you with greater returns without too much of a jump on irs risk factors. The P2P lending formula is attractive due to its relatively high interest rates.
- Fixed deposits provide you return ranging anywhere between 6-8%, while interest on bank deposits gives you returns between 4-6%.
- Mutual funds on an average can provide you a return up to 9-12%, but subject to market performance.
- In comparison, P2P investments have less volatility and higher returns. They provides returns between 15-21% – which are pre-selected by the lenders themselves before they make their investments.
#2 – P2P lending is regulated
In India, P2P lending platforms are classified as non-banking financial companies by RBI, and will be regulated by it. So unlike other avenues of investments – such as cryptocurrencies, there is no apparent threat to the industry, no ambiguity on its validity, and your returns are completely identifiable by the Government.
#3 – Screening and scrutiny
The credit profile of each borrower is scrutinized by the P2P platform using their CIBIL score. This score shows a summary of their credit history across loan types and credit institutions over a period of time.
Borrowers are categorised according to their perceived risk – whether that is low, medium, high or anything else. This is decided after assessing the creditworthiness of borrower. Based on such evaluations, the lenders can decide on whether they should fund these borrowers. A diversification of portfolio ensures another important level of risk reduction. i2i Funding assesses the profile of its borrowers after factoring in 50+ parameters before screening and categorizing them into major categories from A to D – each denoting an increasing level of risk.
#4 – Risk diversification
P2P lending works best when lenders diversify risk between their borrowers. Diversify involves lending money to multiple borrowers with different type of loans. Let’s do the math:
- If you invest Rs 2,000 each across 50 borrowers, and one of them defaults – you’re looking at a loss of Rs 2,000, while you may (presumably) make 20% returns on the remaining 49 borrowers. Net gain? Rs 17,600. Or about 35%.
- Contrast this with a scenario where you invest the same money into just two borrowers. In the case of a default, you’d be starting at a loss of Rs 50,000 straight, eroding your principal itself!
It also makes sense to invest in P2P lending when you hold other form of investments – like bonds or stocks, since it makes your portfolio stronger by diversifying risk. For example, when your stocks are trading in the red, you need not worry because your P2P investment will still deliver steady returns, lowering the impact of losses from other investments. This is possible because it does not have much impact due to everyday market volatilities.
#5 – Addition to your monthly income
P2P lending disburses you regular monthly payouts in the form of EMIs paid by the borrower. Every month, a fixed amount gets transferred to you, working as an addition to your monthly income. Think of it like a second salary! Unlike other investments, where you typically receive the principal+interest at the end of your lock in period, or when you cash out, P2P lending works differently. You start getting your money right after you have invested, which also provides you with liquidity along with financial freedom.
#6 – Benefits of Reinvesting
Reinvesting of your yields makes your portfolio better off due to its ability to leverage the compounding effect. Your added yield actually increases the base of your invested capital which makes you better off on your next reward. This is because it has a compounding effect on your investment, making your financial position better every time you reinvest. Reinvesting can be done in a better way in case of P2P lending, since it disburses a fixed amount every month back to you. This provides you with an option of reinvesting immediately.
#7 – Identification of threats and Opportunities
There is little to no impact of volatility of markets on P2P lending, but changes in macro variables can bring an impact on your lending. For example, during recessions, your default rates may increase due to unemployment in the economy. If you are able to identify this threat with the help of data that is available, you may want to want to fund only less risky borrowers. Another impact can be positive in case of inflation. If data indicates growing inflation in the economy, you can see that as an opportunity where a large number of borrowers can agree to borrow at your higher interest rates.
When are you getting started?
P2P lending delivers the compiled benefits of high interests, low volatility, and diversified risks. It attempts to overcome flaws of traditional banking system by making it more flexible and profitable for its lenders to make investments. As a lender, you need to ensure that your loan portfolio is balanced and diversified to ensure financial stability. There are chances that the borrower may delay or default during repayment. Delayed payments are directly liable for penalty. But in case of default, i2i Funding tries to recover from the borrower as it is a recognized authority by RBI. In all cases, P2P lending is a safe, flexible and profitable investment. Happy lending!