What is Crowdlending?
What is crowdlending exactly and why has it become increasingly popular in the last decade? This blog post is written to answer these fundamental questions many people have.
Needless to say crowlending, also more commonly referred to as peer-to-peer lending, is currently my preferred method of investing and I’ll explain why.
Table of Contents
The Crowdlending Industry
Crowdlending is a form of debt financing. A large number of unrelated people (hence crowd) lend funds directly to borrowers. In return, lenders receive interest for investing.
Crowdlending platforms facilitate the connection between lenders and borrowers. This means traditional financing institutes are bypassed completely. Crowdlending is often referred to as P2P lending as well.
Crowdlending exists since 2005. The industry has been growing ever since, but the last few years business is really booming. Billions of loans are financed through crowdlending across the globe.
Many lenders and borrowers prefer this form of financing over traditional methods. For borrowers this method is a cost efficient alternative compared to banks or investment firms. Lenders find crowdlending appealing for a number of reasons.
Firstly, it’s very easy to become an investor. Some platforms allow you to start investing with as little as € 1.00. Secondly, the returns are attractive. It’s not uncommon see 10%+ returns on investment. Thirdly, fees are extremely minor and often non-existant to the investor. In other words, what you see is what you get. Lastly, it requires very little time once your funds are invested.
Forms of Crowdlending
Peer-to-peer lending (P2P)
Different forms of crowdlending exist and it’s not nearly as confusing as some people like to believe.
Peer-to-peer lending means investors fund loans issued to consumers. These are often unsecured loans or car loans. Many believe P2P-lending to be risky, because of defaulting payments.
However, many platforms operate with a buyback guarantee. In other words, the loan originator will buy back overdue loans. The principle is returned and accrued interest is paid. Buyback guarantees take effect a fter a certain period of time. In many cases the buyback period is 60 days, sometimes less and sometimes more. The existance of a buyback guarantee reduces risk significantly.
There’s dozens of European platforms focussing on the P2P lending market. P2P platforms often require very little time and generate reasonable rewards. Little time, because many platforms allow you to use an auto-invest tool.
Auto-invest allows you to select a set of criteria for loans you wish to invest in. If the criteria are met, a pre-defined amount is automatically invested. You can choose to re-invest finished loans and returns as well.
|This method does not require manual intervention at all. Many P2P investors choose to check in once in a while to monitor uninvested cash (cash drag).
Examples of P2P platforms:
Peer-to-business lending (P2B)
Peer-to-peer lending means investors fund loans to businesses. Most P2B investments don’t come with a buyback guarantee. However, often there’s other precautions to reduce risk. For example, business assets often serve as collateral. This means real estate crowdlending is a form of P2B-lending.
Investors often consider P2B-lending to be more engaging. It’s exciting to invest in actual business projects. Typically a lot of information is available on the project. Returns are often higher as well compared to P2P lending. This, of course, comes with an associated higher risk.
The risks of crowdlending
Many consider crowdlending a high risk investment type. The industry itself is new compared to traditional methods of investing. Furthermore, it’s uncertain how the industry will respond to a financial crisis.
No investment is without risk and that’s certainly true for crowdlending. The best example is Eurocent, a former Mintos loan originator. The company ended up declaring bankruptcy. This caused a lot of uncertainty for many investors in Eurocent loans.
Any experienced crowdlending investor aims to mitigate risk. The most common precautions:
- Keep your main portfolio with proven platforms
- Perform due diligence on new platforms
- Diversify between platforms
- Diversify between loan originators / sponsors
- Buyback guarantees
- Other types of protection (collateral, investor protection funds etc)
Crowdlending is my favorite type of investing, for a number of reasons.
- Easy to get started for new investors
- Many possibilities to diversify your portfolio
- Very acceptable returns
- Great way to utilize the power of compound interest
- Ability to manage risk
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