I’m a diligent saver, but seeing my savings accounts earn pennies each month in interest is frustrating. I always feel like my money should be working harder for me. The stock market is an obvious option, but stocks are not the best avenue for the money you might need in a year or two.
Adding to that, I’m a huge fan of passive income. I love the idea of making money without doing anything and earning interest while I sleep. Building streams of passive income are the path to security and freedom (or so I tell myself).
And so, I was drawn to peer-to-peer lending. With a modest initial investment of $1,000, I’ve averaged 10% in returns. Like any other form of investing, I suspect that my luck will ebb and flow, but it’s been successful for me and can be a useful option for other people looking for stock market alternatives.
Millennials and the Stock Market
According to a recent study by Bankrate, more than two-thirds of millennials are avoiding the stock market. Citing fears about the stock market, more and more young people are simply socking away money in savings accounts. However, not investing is a costly mistake that could affect them in retirement; without annual returns and compound interest and with savings accounts averaging a measly 0.06% interest, millennials will have to save a lot more to have enough in the bank accounts at the end of their careers.
Peer-to-Peer Lending
Many people are looking for alternatives to the stock market to get more out of their money, and one of the most popular options is peer-to-peer lending. Companies like Lending Club, Lending Tree and Prosper are lending firms that match individual borrowers with private investors. As an investor, you can earn high returns –sometimes as high as 15%– if you are willing to take on the risk of lending out to individuals.
But before you lend out your money, it’s important to do your homework. Peer-to-peer lending is in no way risk-free. Here are three things to consider before giving out loans:
- Your investment is not guaranteed. Unlike a savings account or a certificate of deposit (CD), your money is not protected, and it is possible to lose your investment. By providing loans to borrowers, you are betting on their ability to pay it back with interest; in some cases, it will work out fine with a good return. In others, borrowers may default, and you may lose money. Just like gambling, only contribute what you can afford to lose.
- You will want to diversify your portfolio. If you have $1,000 to invest, do not give it out all on one loan. Having all your money is one basket makes it more likely you’ll lose everything; if that one lender defaults, your investment is gone.
Instead, contribute smaller amounts to a bunch of different loans. Most companies allow you to lend out as little as $25, so you can do as many as 40 loans with your $1,000. By diversifying your lending with 40 different individuals, you hedge your bets and up your chances of earning a return.
Additionally, you can increase your earnings by diversifying the types of loans you give out. You can opt for some “high-risk” loans, such as lending to those with lower credit scores. While those borrowers may be less reliable, you’ll earn a higher return on those loans. Balance your portfolio by lending out to borrowers with outstanding credit, but lower interest rates, to protect your investment. - Peer-to-peer lending should not be your sole investment strategy. While peer-to-peer lending can be a great way to diversify your income streams and earn more than you would in savings, it’s no substitute for traditional retirement accounts like 401(k) plans or IRAs. Your retirement savings should be primarily in these outlets tied to a mix of stock market investments and bonds. With peer-to-peer lending, you get none of the tax advantages of traditional retirement vehicles and carry more risk; it’s most useful for people looking for short-term investment options for their extra money.
If you’re afraid of short-term investing in the stock market and want more bang for your buck than traditional money market or savings accounts can offer, peer-to-peer lending can offer impressive returns. However, before you invest your entire nest egg, it’s important to understand the benefits and the risks before getting started. Start small, diversify your portfolio and also take advantage of other investment vehicles to earn strong returns while protecting your money.
This “Peer-to-Peer lending” strategy which you talk about sounds just like the recent elections we just had. It was one hell of an ordeal trying to figure out which one, out of two bad candidates the least worse.