Like many of you financial nerds out there, I’m always keeping an eye out for new investment opportunities that might help me meet my goal of financial independence. I had read about Prosper lending from many sources, especially from Financial Samurai, and I was interested in giving it a shot. In case this is the first time you’ve heard of it, Prosper is a company that facilitates and administers peer-to-peer loans. Prospective borrowers apply to borrow money through the Prosper website. Average Joes like you and me can loan some or all of the money for each of those loans. Prosper acts as the facilitator, doing some preliminary screening for the loans on the front end, collecting loan payments during the loan period, and if necessary, attempting to collect past-due amounts from borrowers.
Prosper Lending: How It Works
From the borrower’s perspective: They apply for a loan through the Prosper website, much like they would with any bank. Prosper does an initial screening, runs a credit report, and verifies certain information, such as income.
From the lender’s perspective: We upload funds to the Prosper website, and then search for loans that we want to invest in. Prosper doesn’t provide all of the borrower’s financial details, to protect the borrower’s privacy, but they do provide a brief overview of the borrower’s financial information. It looks something like this:
We lenders review the borrower’s summary, and decide whether we want to lend to this borrower, and how much to lend. The minimum you can invest in any one loan is $25. Once the loan has enough lenders to meet at least 70% of the amount requested, and once Prosper has finished its review and verification of the borrower’s financials, the loan funds.
The borrower receives the loan funds, and begins making monthly payments a month later. It appears, based on my personal experience, that Prosper sets the borrowers up with an automatic monthly withdrawal, to help borrowers stay on track. When Prosper collects money from a borrower, it divvies up the payment between all of the lenders on that loan, subtracting its small percentage for administering the loan.
Diversification is Important
As with all investments, diversification is important. You don’t want to throw all of your investment money into a small number of loans, because if a borrower defaults, you could lose a good chunk of your investment. Prosper loans are just regular unsecured consumer loans, so if a borrower defaults and files for bankruptcy, you stand a good chance of having your investment be wiped out.
Prosper encourages lenders to diversify to at least 100 different loans. Its website proclaims that “for Notes purchased since July 2009, every Prosper investor with 100 or more Notes has experienced positive returns.” At a $25 per note investment, that amount of diversification would require a total investment of just $2,500.
I made my first Prosper loan on March 26, 2015. I put in $2,500 in March, and another $2,500 in April. I also added another $100 in September, but I can’t quite remember why I did it or why the amount was so small. In any event, I have $5,100 in principal in the account. With interest, the amount has grown to $5,488.35 as of December 6, 2015. So far I’ve earned 11.59% on the notes I’ve invested in, according to Prosper’s calculation. With so many notes originating on different dates, I will defer to their calculator, but it looks about right considering the total interest I’ve made and the amount of principal I’ve invested. I don’t expect the 11.59% to be my long-term investment rate. As the loans age, more of them will likely go into default and reduce the actual rate of return.
So far, out of 112 notes total, I have 2 which are currently in default. That doesn’t seem like a terrible ratio, but it is still early in the game, too. Unfortunately, those 2 notes are a couple of the larger loans I made, $100 and $75. I probably should have stuck with $25 notes, but I was in a bit of a hurry to get all of my money invested when I first started, so some of the loans I made were a little bigger because I felt like I was running out of borrowers that had good criteria for lending.
I am hoping that Prosper’s collection agents are successful in getting delinquent loan balances collected. There was one loan early on that bounced a payment and ended up being about 15 days late, but fortunately the borrower got back on track right away. These two are much later. One is 61 days behind. The other is only 41 days behind, but the bad news is that that borrower has filed for bankruptcy.
It’s frustrating to see a borrower take out a loan and then declare bankruptcy after such a short time. It almost feels like the borrower did it on purpose. Although I have to admit that having someone borrow money and then default after 6 months is still less maddening than having someone move into an apartment that you own and bounce one of their first few rent checks. Or worse, moving in and then turning into a bad tenant and scaring away your good tenants. With Prosper, it’s somehow a little less tangible, and less of an emotional loss for me.
Have you ever invested in Prosper notes? What has your experience been like? How many defaults have you had?