Explain what risks you take on when you lend money through a peer-to-peer or crowdfunding platform.
The rate a peer-to-peer lending platform advertises is the interest its borrowers agree to pay. What you earn is that rate minus your losses on loans that pay late, pay only part of what they owe, or never pay.
Kumar is a made-up 36-year-old logistics manager living in Punggol. He sees an advertisement for a platform that lets ordinary investors lend to Singapore small businesses. The headline promises around 8% a year (an example figure), far more than his fixed deposit pays. He learns that the businesses are real, the loans have fixed terms, and he can spread S$5,000 (also an example figure) across many loans.
Peer-to-peer (P2P) lending, also called lending-based crowdfunding, matches people who want to lend with people or businesses who want to borrow. In Singapore the borrowers on these platforms are mostly small and medium businesses, borrowing for working capital, invoice financing or short-term loans. Lending this way is roughly like being a bank without the building, including the bank's main burden of dealing with borrowers who do not pay.
The platform checks borrowers, sets the interest rate and terms, and lists the loans. It collects investors' money, pays it to the borrower, then collects repayments and passes them on to investors. It earns fees from the borrower, from investors, or from both. A fee taken from your repayments reduces your return directly, so read the fee schedule carefully and find any fee that comes out of investor repayments.
Platforms arranging business loans for investors in Singapore are regulated by MAS, generally under a capital markets services licence. Look up the platform's exact legal entity in the MAS Financial Institutions Directory, using the method in Lesson 3.4, "Run a licence and terms check on one exchange", and note which activities its licence covers. A licence means the platform is supervised; it does not mean MAS guarantees or stands behind any loan.
In this made-up example, Kumar splits his S$5,000 into ten loans of S$500 each. To keep the arithmetic simple, each loan runs for one year at 8%, with interest and principal repaid at the end. Each loan repaid in full returns S$540, so if all ten repay, he gets back S$5,400.
If one borrower defaults and nothing is recovered, he gets nine loans x S$540 = S$4,860, a loss of S$140, or 2.8%. If 40% of that failed loan is recovered, he gets an extra S$200, for a total of S$5,060 and a return of S$60, or 1.2%. If two borrowers default with no recovery, he gets back S$4,320, a loss of 13.6%.
With fixed-rate lending, the best case is capped at the interest rate and the worst case is losing the principal on every loan that fails. The margin is thin enough that one bad loan in ten can turn the advertised return into a small loss. Treat the headline rate, the interest borrowers agree to pay before any defaults, as your best case, and estimate your return after defaults and partial recoveries.
Many business loans are repaid in monthly instalments, so your money comes back gradually and earns interest on a shrinking balance. A flat rate can mislead a lender the same way it misleads a borrower. Lesson 3.2 of How money works, "Why a flat rate loan costs nearly double what it looks like", shows the arithmetic from the borrower's side, and the same arithmetic applies to you as a lender. Check whether the platform quotes a flat rate or an effective rate, and how it calculates the return it displays.
Most platforms publish default and late-payment statistics, which are only useful once you know how they are defined. The meaning of default differs between platforms: one may count a loan as defaulted at 90 days overdue, another may wait longer, and another may count only loans formally written off. A loan that is late but not yet labelled a default may be left out of the default rate entirely.
Check what period and which loans the figures cover. An all-time default rate includes years of strong economy, and the rate for recent loans, or for loans made in a bad year, may look very different. A platform that has only operated through good times has a history that says little about a downturn.
P2P loans are usually held until they are repaid, and many platforms offer no way to sell early. Where a resale market exists, a buyer may only take your loan at a discount, so check whether loans can be sold early and at what likely discount. Money you lend for a year is effectively locked up for that year. Lesson 7.3, "Liquidity: how fast you can sell and at what price", takes this further.
If the platform closes, someone has to keep collecting repayments and passing them on to investors. Some platforms describe a backup arrangement for this, and others say little. Read what the terms say happens to your loans if the platform stops operating, and who would collect the repayments.
For Kumar, 8% is the most he could earn, and only if every borrower pays in full. He would be lending to small businesses, some of which will struggle, through a platform that is itself a small business. Before deciding, he wants to see one platform's actual track record and exactly how it defines a default.
Find one platform's published figures on defaults and late payments, and write down how that platform defines a default.
Junxiong-WFG Organisation is an authorised representative of AIA Financial Advisers Private Limited (Reg. No. 201715016G).