Peer to Peer Lending at Prosper.com, Is it Worth the Risk?
Prosper.com is a peer-to-peer (P2P) lending website, which allows individuals to either borrow money from other members of Prosper, or invest to those seeking loans. Yes, you did hear that correctly. It does not surprise us that there is yet another way for people to borrow money and more likely, fall deeper in debt. However, it is a little troubling that everyday main-street investors are now able to play the role of bankers. While the whole concept of Prosper is unorthodox to say the least, it is appealing, but is it worth the risk?
How Does Prosper Work
Prosper creates a lending atmosphere where the lenders can also serve as the borrowers. For those seeking loans, you create a profile in an attempt to sell yourself as a responsible borrower. It is here where you lay out your monthly expenses, what it is you need the loan for and any additional information you feel will help your chances to get your peers to invest in you (a credit grade is also placed to your account, determined by Prosper). The borrowers can then browse all of the profiles and fund as many or as little of the loans as they wish, with minimum investments of $50 and maximum investments of $25,000. All interest paid on the account would essentially be going to the investor. You can read more about how Prosper works here.
Advantage Goes to…Nobody
It’s tempting to say the borrower has the advantage, simply because they have less to lose, however, it’s likely the interest rate they will pay on the loan is higher than on other conventional lending products. The investors, or those funding the loans, potentially can lose everything. Although these loans are treated like any other loan from a financial institution - meaning if you default, you face the same consequences - investors have no assurance they will see any repayment. Borrowers with lower credit grades face higher interest rates because the chance of default is higher, lenders then would have the potential to make more by taking chances on these risky borrowers. Although Prosper allows investors to spread their risk out by making multiple loans on multiple people, any default in your portfolio of loans would substantially reduce your overall returns. Even though these loans are at a fixed rate, the threat of defaults is too high of a risk to invest in our opinion, especially in light of our current credit markets with foreclosures, sub-prime mortgages, and the likelihood of a possible recession.
Proceed with Caution
If the temptation of 2o% returns is too high for you to pass up, dabble in this risky business with little money at first, with the realistic view that your actual returns will most likely be less than the original terms, due to defaults. If you are on the other end and think this might be a viable place for you to borrow money, check around first and make sure your borrowing rate will be less with Prosper. We do think Prosper offers a great place for those with little credit history or those with a bad credit past to obtain loans, but if it came down to it, neither Ben or I would yet borrow or invest with Prosper. $
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I would say there is an advantage to all parties - except banks. The lenders are getting above market interest rates on their money. Borrows are getting loans that they might not have been able to get before at rates that can be reasonable.