Bypass Banks and Get Better Rates

Peer-to-Peer Lending Can Benefit Borrowers and Investors

Have you ever lent anyone money with the aim of generating a return on investment? Well, if you’ve ever opened a savings account or purchased a bond, then you have. Any funds you have on “deposit” at a bank make you a creditor. The problem is, you get paid virtually nothing in interest these days.

Even bonds pay out a pittance. In January, the yield on the benchmark 10-year Treasury note fell to 1.95%. Surely, you can do better than that.

One way an increasing number of people are generating higher rates of interest on the money they lend is through what’s become known as peer-to-peer (P2P) lending. Through P2P platforms such as Lending Club (888-596-3159; www.lendingclub.com), individuals can lend money to a pool of carefully pre-screened borrowers. Lending Club approves only about 10% of the total loan applications it receives, weeding out most of the poor credit risks.

Off-Grid Banks Are One Plausible
Alternate Funding Option

The borrower pays a loan origination fee of 1.11% to 5%, which comprises 88% of Lending Club’s revenue. Investors pay a service fee of 1% on every payment received from a borrower. Investors can expect to earn after-fee returns of 5% to 12%.

Yes, some borrowers pay interest rates of well into the double digits – often to consolidate credit card debt that carries interest rates of 18% or more. Lenders protect themselves against default risk by investing in a range of loans in increments of as little as $25.

In normal times, default rates are fairly predictable based on credit scores, and thus so are returns to investors. But in the event of a severe economic downturn, lenders do run the risk of an abnormal spike in defaults.

So far, the system has worked well for both borrowers and lenders – and that could be bad news for conventional brick-and-mortar banks. The Financial Times recently noted the “rapid expansion of the peer-to-peer (P2P) sector, which can only erode further the position of still capital-strapped banks.”

Lending Club went public with an Initial Public Offering last December. Lending Club Corp. (LC) currently sports an $8.3 billion market capitalization. Although the stock should be considered high-risk/speculative, it stands to benefit from sustained growth in un-banking and P2P finance.