Social lending: diversification by number of investments

I’ve written before about the importance of diversification in terms of being careful about the individual loan sizes and diversification across different social groups.

However, another very important aspect of diversification is the sheer number of investments that you have in your portfolio. No matter how much or how little money you invest, a bigger number of investments always tends to be better because it minimizes many of the potential risks that accompany social lending. If you read analysis based on American P2P lending sites such as Prosper and Lending Club, then you are aware that at minimum you should have at least 100+ investments, and more ideally you should have 200 individual loan pieces.

Estonian diversification data

So far Bondora hasn’t really given out data on the impact of diversification on your portfolio, but digging around their blog I came to a very informative table about the impact of diversification that you can see below:

contractamountSource: Bondora official blog

Essentially looking at the numbers you can see that at lower diversification levels both your potential overall returns and the average return rate are lower. The level of diversification is also important when it comes to stabilizing your portfolio and reducing overall volatility.

Building a diversified portfolio

Looking into the table above then it’s clear that you should be aiming 1) to hit 100+ contracts as fast as possible and 2) steadily growing your portfolio to reach ~500 contracts. (Beyond that the impact of diversification seems negligible)

Currently entering the market to get 500 loans is quite difficult. Getting in the range of ~50 loans per month should be doable though. This means that to build a well diversified portfolio you should be thinking of adding at least 500€ per month to get 50 or so loans. Of course, building a portfolio takes time, and most people can invest nowhere near that much money per month. Still, it’s entirely realistic to reach that level of diversification within 2 years of slow and steady investing. At 5000€ you should already have a very well diversified portfolio that shouldn’t be heavily impacted anymore by any single loan pieces.

My portfolio analysis

I just hit the 400 loan marker with my portfolio. This means that hopefully by the end of 2014 I will have a very balanced and diversified portfolio that will be highly resistant to any sudden changes.

Currently I’m hovering in the top 10% for overall returns when compared to ther investors in my time and money ranges, so I think I’m doing great overall. Already at this point individual defaults have a barely noticable impact on overall returns, which makes is much easier to worry about them less.