One of the main questions regarding P2P Lending is that of risk, so let’s take a more detailed look.
Risk No.1 – Borrower Fails To Repay
FSCS is the Financial Services Compensation Scheme and it currently provides protection for deposits up to £85,000. It covers all banks, building societies and credit unions. Be aware that P2P is NOT protected by the FSCS, a fact which is emphasised by the higher interest rates on offer.
Obviously one of our main concerns is that the borrower will fail to repay the loan and therefore there is a risk of losing capital. Many P2P platforms have put in place methods of mitigating this risk, usually by:
Taking a security on the loan, usually in the form of a Directors guarantee or a debenture/floating charge.
Simply stated this means that the P2P platform can take personal assets from the director(s) concerned or has a legal right to seize possessions and sell them to pay back what is owed. If a particular P2P lender shows that a debenture is in place, then you can normally read the details by finding the borrower on Companies House.
Let’s look at an example, in this case on the LendingCrowd platform and a company called Internet Anywhere Ltd.
If I log into the platform and then my account, look at current investments and click on the company of interest I see this:
On the right hand side you can see that there is a Floating Charge/Debenture in place. If you hover your mouse over the words “Asset Security” you’ll see this:
You can see from the description that the floating charge in this case (It’s a Scottish company) provides security over all the companies assets. This means that in the event of a default, LendingCrowd can use the assets of the company to help repay the loan. Of course, you have to make sure that the company actually has sufficient assets to cover the loan amount!
In this case Internet Anywhere Ltd have loaned £95,000, so we need to take a look at what assets they have. You can find this information on the LendingCrowd platform by clicking on the name of the company and then “Financial Summary”. The assets will be detailed in the Balance Sheet and here’s Internet Anywhere’s:
We can see that the company has Total Assets of £174,012 and Total Liabilities of £162,088, which gives Net Assets of £11,924. This is very low when compared with the amount loaned so I wouldn’t risk much more than £20 on this company and I’d also want the interest rate to reflect this risk. I personally wouldn’t accept less than 10%.
Establishing a provision fund which is intended to reimburse lenders in the event of a default.
In the example of LendingCrowd, they don’t have a provision fund. Other P2P platforms do.
Making it easy to diversify across a large number of loans.
Most P2P platforms make it very easy to make multiple loans for smaller amounts of money. In the example of LendingCrowd, typically they have between 40-60 loans available at any one time. At the time of writing they have 47 loans available:
You have the option of setting autobid, which means the platform bids on loans according to criteria that you set. This includes the maximum percentage of your portfolio you are willing to invest per loan. An an example, if you have £5000 invested overall and you set the outbid to 2% maximum per loan then your individual loans will be limited to £100.
In practice I tend not to use the autobid feature, preferring instead to examine the financials of each business and then deciding if I am prepared to lend them money, and if so, exactly how much.
The minimum loan you can make on LendingCrowd is £20, so this would be for a business on which I assess there is more risk than most. I tend to invest larger amounts (even up to £300) on a business on which I perceive there is minimal risk. I’ll discuss how I do this in a later post.
Risk No.2 – Access to Your Cash
You want to be able to access your cash in the event of a sudden need. P2P lending platforms normally provide a number of ways of getting at your cash and LendingCrowd provide two methods of withdrawing money:
- If you have money in your investor account then you can simply enter your bank details and click on “Transfer Out”. If it’s the first time you have made a withdrawal then they will need to verify your bank account (normally by emailing them a bank statement from the last 3 months) and this takes 2-3 days. Once verified the money requested will be returned to your bank account. If you funded the cash by debit card then the funds will take 5-10 working days. If you funded your account by bank transfer then the repayment will take 3 working days.
- If your money is invested in loans then you can sell them on the LendingCrowd’s Loan Exchange. LendingCrowd charge a fee of 0.5% of the loan value for doing this. My experience is that loans are sold very quickly, typically in a matter of hours.
Risk No. 3 – P2P Lending Platform Risk
Clearly we are interested here in the risk of a specific platform going out of business. LendingCrowd say:
“At LendingCrowd we don’t have a provision fund and our winding down process includes an agreement with Nostrum Group to take over management of the loan book if LendingCrowd went out of business”
So clearly their owners, The Nostrum Group, would take over the loan book in the event of LendingCrowd going out of business.
Overall I don’t think that the risks in P2P lending are as high as you might think. Here’s a very interesting article that suggests 7 reasons to put 50% of your savings in P2P lending!