Peer-to-Peer (P2P) lending is quickly becoming an increasingly popular way of accessing and investing in personal loans. But there are both advantages and disadvantages to Peer-to-Peer lending.
As with any financial decision, it’s important to take your time to understand the pros and cons of P2P lending, and if it’s the right option for you.
P2P lending advantages for borrowers
The advantages of P2P lending for borrowers are numerous, and should not be overlooked. Here are some of the key benefits:
1. Lower interest rates
P2P lenders typically offer lower interest rates than traditional lenders. The low rates in P2P lending can also be beneficial for borrowers because they can access funds at a lower cost than traditional routes, such as bank loans.
Low-interest rates can also help borrowers save money on interest payments, allowing them to pay off debt faster or invest in other projects. This also makes it easier for borrowers to keep up with payments.
2. Flexible repayment terms
P2P lenders sometimes provide more flexible repayment terms than traditional lenders.
Flexible payments in P2P lending are an advantage for borrowers because they allow borrowers to tailor their loan payment plans to best fit their financial needs.
This can include repayment terms that are longer than those offered by traditional lenders, which can help borrowers who are stretching their budget and need more time to pay back their loans.
Flexible payment terms can also provide borrowers with the ability to make extra payments on their loans without penalty, which can help them save money on interest and pay off their loans faster.
3. Quicker approval
Many P2P lenders offer faster approval times compared to traditional lenders, so borrowers can access funds quickly. On EstateGuru, real estate projects are getting funded up to five times faster than with traditional financing.
Quick approvals in P2P lending are an advantage for borrowers because they allow borrowers to get the funds they need quickly. This can be especially beneficial when borrowers have an urgent need for funds, as they can access the money they need rapidly.
4. Greater access to credit
P2P lenders make credit more accessible to borrowers with bad or no credit history, giving them an opportunity to build their credit score.
5. No collateral requirements
Unlike traditional lenders, P2P lenders don’t require collateral, which can be a huge advantage for borrowers who don’t have any assets to put up as security.
6. Lower fees
P2P lenders typically charge lower fees than traditional lenders, meaning borrowers can save money on loan origination and other associated costs.
P2P lending disadvantages for borrowers
Borrowers also face some cons when it comes to Peer-to-Peer lending. Here are some of the most important disadvantages:
1. Limited access
P2P lenders often have strict criteria for who can borrow, making it difficult for some borrowers to access funds.
2. Limited lending options
P2P lenders may only offer certain types of loans, such as short-term loans or unsecured loans. This can make it difficult for borrowers to access the funds they need.
3. Potential for fraud
With P2P lending, there is always the potential for fraud, as borrowers are not protected by the same laws and regulations that apply to traditional lenders.
P2P lending advantages for investors
The advantages of P2P lending for investors are numerous and can be quite lucrative. Here are some of the key benefits:
1. Higher returns
P2P lending offers higher returns to investors than traditional means of investing such as stocks, bonds, and mutual funds. While rare, P2P lending returns can be as large as +20%.
The higher returns are due to the fact that P2P lenders are able to charge higher interest rates than traditional lenders, which allows investors to earn higher returns. In recent years the returns have been around 10% for European P2P lending platforms.
Diversifying your investments is important and P2P lending allows for this. Investors can spread their risk by investing in multiple loans and borrowers, reducing their exposure to volatility and default risk.
Peer-to-Peer lending can also be a great way of adding more diversity to your overall investment portfolio by not only investing in stocks, bonds, mutual funds, and crypto.
3. Easy to understand
Compared to other investments, P2P lending can be easy to understand for investors. This makes this form of investment attractive for beginners that are dipping their toes into the investment world.
4. Increased liquidity
P2P lending provides investors with increased liquidity compared to traditional investing. Investors can easily sell their loans on the secondary market, allowing them to quickly access their cash if needed.
5. Low minimum investment
P2P lending has a low minimum investment requirement compared to traditional investing.
With some P2P lending platforms, you can get started with as little as €1. This makes it more accessible to a wider range of investors, including those with limited financial resources.
A minimum investment of €10 is more normal in the current state of the market.
6. Low fees
P2P lending also offers lower fees than traditional investing. This is because the investors are not required to pay fund management fees or commissions on their investments.
7. More control
P2P lending also gives investors more control over their investments. Investors can choose which loans to invest in and can set the interest rates they wish to charge. This allows investors to tailor their investments to their individual risk profiles and financial goals.
P2P lending disadvantages for investors
If you wish to become a P2P lender, you must know about the cons of investing in P2P loans. Here are some of the most important disadvantages of P2P lending:
1. Limited liquidity
P2P loans are typically locked up for certain periods of time, with no secondary market available to sell them to other investors. This depends on the platform you choose.
If liquidity is important to you, it is advised that you select a loan-based crowdfunding platform with an active secondary market.
2. Lack of transparency
P2P lenders are not required to provide detailed information about their investments and borrowers, leaving investors in the dark.
How much transparency you will face depends a great deal on which platform you choose to invest on. Some platforms are very transparent.
3. Investors face many risks
Risk and return are interconnected. With high risk comes high returns. P2P lenders may be exposed to both credit risk and other P2P lending risks.
A large number of different risks can be hard to manage for new investors.
4. Lack of regulation:
P2P lending is not subject to the same regulation as other investments, leaving investors vulnerable to fraud. Unfortunately, the market has been shaken a few times by P2P lending scams.
5. Unpredictable returns
P2P lending can be unpredictable and returns can vary significantly from month to month.
A crowdfunding platform can easily have years of positive returns just to provide negative yields shortly after.
6. Limited scalability
P2P investments are limited in size and typically cannot be scaled up beyond a certain point. Large institutional investors can have a difficult time scaling their investments in this market.
Large institutional investors might opt for one of the biggest platforms called Mintos which takes up around half of the European crowdfunding market.