Can social lending lead a path to financial freedom?

The title of this post is an intriguing question that I saw posted in a discussion group I’m involved in. It’s definitely intriguing because social lending is currently both very accessible for small scale investors and offers much bigger returns (theoretically) than many other investments. This would make it a perfect investment for a quick path to financial independence, would it not? Reality, as always, is a bit more complicated.

What is necessary for FI?

There are two paths for reaching financial freedom. Either you have large enough assets that last you until the end of your life or you have enough cash flow to cover your monthly expenses. Social lending in this case would fall under the second path – you have constant monthly inflow of interest payments that you could transfer out of the portal to use for living expenses. If your portfolio is big enough then at some point you could in theory start selling loans off as well to reduce your portfolio, but this is an unlikely solution.

At current rates of return, you would need a social lending portfolio of about 100 000+ euros to earn enough to live off about 1000 euros (net) per month. (provided you have health insurance, otherwise it’s 1,5x the amount). This number is slowly increasing as returns of social lending drop as the industry evolves. (US sites give us a baseline of 7-10% to plan for in terms of the future). For a similar sum of money you wouldn’t be able to create an equal amount of yearly dividends or rental income (unless you leverage heavily against loans). Why don’t more people focus only on social lending then?

Risk level of social lending

One of the core truths of investing is that higher returns are intrinsically tied to higher levels of risk. This means that while you can enjoy high returns you must be ready to take significant losses as well. In terms of social lending this means that in case of a recession or any other significant economic drop you would potentially lose a lot of your projected monthly cash flow – I wouldn’t be surprised if the drop in payments was something close to half of what is expected. This would give you two options – either dip into the principal amount of your loans to cover your expenses or live off significantly less until recovery kicks in.

Most social lending sites have not gone through a severe recession – the US example only gives us a baseline that’s mixed with the newness of the industry from 2009, meaning it’s hard to project those numbers to the current economic climate. This means that the drop could be far steeper or less steep than expected, however it’s generally best to be prepared for anything when it comes to financial planning.

Managing risks

The reason why most financial gurus and bloggers talk about at least three different asset classes (though they may be very strongly focused on just one), is because it’s a way of balancing out risks. In the case of an economic downfall not all asset classes drop or recover in the same way. If you think of people losing their jobs then the first thing to drop is the commodities market because people start to cut back their expenses. Then it’s a balance between paying off your debts and keeping a roof over your head. People will likely switch to smaller apartments which will influence rental income, and lack of consumer demand will drop stock prices across the board.

This means while one part of the market is already dropping the others will hold steady for a while – the same for recovery. Real estate takes quite long to recover usually, and the same is likely true for loans as well, since bailiffs will take a while to start getting any payments because people will need to find jobs and get their finances back in order. The stock market might go up quickly with euphoria after a severe drop like it did this time around, but recovery might also last years.

For me personally this means that I’m making an effort to diversify my portfolio across different asset classes. While in numbers social lending makes sense in terms of high returns, even I don’t have the risk tolerance to invest only into social lending. Currently Bondora + Moneyzen make up about 60% of my portfolio. Crowdestate, which I would list under real estate (which I know is arguable), is about 10% and the last 30% consists of Baltic stock and SP500 index. In the long run, the value of social lending in my portfolio should slowly start dropping, but it will likely remain at the 50% level for a while.

7 thoughts on “Can social lending lead a path to financial freedom?

  1. Sounds like a good plan with several asset classes.

    I’m a big friend of stocks so of course I applaude the move into the stock-market. Especially the north american stock markets which I like much. But beware of taxes. I don’t know about Estonia but in Sweden the IRS over there takes their 15 % of the dividends no matter what you do. Also north American stocks, like the European stocks, seems heftily valued now. There are no bargains to be found anymore 😮 It’s probably a good thing even out the swings in the share prices by investing gradually with several small investments spread out over time. Fortunately that’s the way most of us get new money :D. A small salary every month and after a few months there may be enough €€ to buy some new shares :)

    The other special Estonian assets, Bondora, Moneyzen and Crowdestate I simply have no experience of so I can’t comment much on them.

  2. Bondora ja teiste laenuplatvormide puhul on mängus ka psühholoogiline aspekt, millele väga vähe tähelepanu pööratakse. Sa annad seal laenu ju reaalsetele inimestele. Kindlasti leidub nende hulgas sellised, kes seda laenu hädasti vajavad, aga enamik kulutab selle lihtsalt tarbimisele. Minul küll tekib sisimas küsimus, kas on ikka eetiline anda inimesele tohutu intressiga laenu selleks, et ta saaks osta asju, mida ta tegelikult ei vaja? Selleks, et niimoodi laene anda, peab laenuandja endalt küsima, kas tema süda on piisavalt kalestunud, et mitte näha, kuidas tema enda tegevus vajutab mõned teised inimesed veelgi lootusetumatesse võlgadesse.

    Selleks, et seda möödavaatamist kergendada, nimetab Bondora laenuandjaid uhkelt investoriteks ja laenuandmise protsessi investeerimiseks. Ma ise olen ka Bondoras laenuandjana tegev, aga ma ei tea, kui kaua ma seda dilemmat taluda suudan. Nendele inimestele, kes laenu võtavad, oleks palju rohkem abi mitte rahast, vaid haridusest.

    1. Tere, Maria! Nõustun mitmeti, et iga investeeringu puhul on oluline välja mõelda, mis väärtuseid sa sellega toetad. Mina seetõttu näiteks eelistan konsolideerimiseks võetud laene, sest need parandavad inimeste majanduslikku olukorda erinevalt tarbimislaenudest. Ja haridust üritan blogi ja muude ettevõtmiste kaudu jagada, loodan et tasakaalustab ära :) Ega laenud maailmast kuskile ära ei kao ja on mõistlik ennast iseseisvaks teha, et saaks siis teisi rohkem aidata.

    2. Kapitalismis eetika ei tööta. Kui Sina ei taha laenata, siis leidub keegi teine, kes seda teeb ja tõenäoliselt suuremate intressidega. Selles mõttes teeb Bondora hästi, et kuni C grupi laenaja saab kuni 26-28% intressimääraga laenu ja see on turu mõistes suhteliselt OK laenu hind. Tegu on siiski puhtalt lubaduse eest antavate laenudega, mis tähendab, et kõigi usaldus ei ole ühesuguse maksvusega.

      Teistpidiselt – kui ma laenan mingi summa siin täna välja ja aasta pärast võtan ringiga ise suurema summa laenu, siis summa summaarum olen ma paremas positsioonis kui laenuvõtja, kes lihtsalt laenab. Kui suudame kõigile selle selgeks teha, et laenata on OK, aga proovi ka investeerida, siis ma usun, et finantspuhver saab olema igas mõttes suurem.

  3. Kusjuures, olen ise ka juurelnud sellel teemal, kuid minu arust pole probleem laenu andmise ebaeetilisuses, vaid laenajate taustakontrolli ebaefektiivsuses ning suutmatuses finantsvõimekust realistlikult hinnata.
    Laene on aastatuhandeid antud ning sellega tegelevad ettevõtted finantsasutustest kuni koduelektroonika müüjateni välja, kuid endiselt tekivad juhused kus laenajal on võimalik võtta rahalisi kohustusi rohkem kui ta sissetulekud lubaks.

    Kui Bondora ja teised ühisrahastusplatvormid ära kaoksid, leiaksid laenajad ilmselt tee tagasi sms laenude juurde, mis enamasti küsivad suuremaid intresse ning on laenuvõimekuse hindamises veelgi lõdvemad.

    Olen ise ka Bondoras tegutsev, ning õnneks on seal erinevad parameetrid, mis annavad investoritele palju informatsiooni laenajast enne kui laenutehing sooritatakse.

  4. I have to agree with the main point that you need to diversify between asset classes and I seriously doubt that it’s a good idea to “retire” on only social lending portfolio. You need something else to balance the income in case there is really some sort of crises or event that reduces the income from P2P lending.

    In reality it doesn’t even have to be crises, but simply the industry maturing more and thus interest rates going down (currently that would mean that from the 10-15% return level, for example we’d go down to 5-6% with “security funds” like in the UK).

    With crowdestate I wouldn’t call it as real estate in terms of diversifying for economic crises. It is a loan and while it does perhaps help you diversify in regards to credit risk, it is still the same kind of risk in operational terms (the platform risk) and if the crises makes finding borrowers (or lenders) really hard since defaults go up, then the platform will struggle the same as any other P2P with unsecured loans who can’t get enough cashflow from existing loans and is not able to issue enough new loans to save the company. The real estate in that sense doesn’t alleviate the operational risk and I guess you could call it “semi-real estate” investment in this context :)

    In other words, all P2P investments have a somewhat correlated risk (in regards to operational risk at least, but in some sense also credit risk) so diversifying between them doesn’t reduce risks all around even if the underlying assets are somewhat different.

    But if we’re talking about getting to financial independence, then in my opinion having a large allocation in social lending in the beginning is quite good thing to have if you know what you’re doing and then you can more easily start building your investments in other asset classes.

    In the end I would probably reduce it’s allocation to 20-30% max if I have enough investments to call myself Financially Independent.

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