A new interest-earning option for investors

When Greg Frohlich opened the business section of The Sydney Morning Herald back in March 2015 he was intrigued by what he read. The article spoke of a bold new concept that challenged the traditional role of banks in the lending and term deposit markets. “I was looking for ways to invest some spare cash and was quite attracted by the idea of earning good interest without having to go to a bank,” he said.

The concept, known as peer-to-peer lending, was based on a radically simple idea that lenders and investors could connect directly via an online platform and bypass the need to go through a bank to borrow or to invest funds. By avoiding the inherent costs of using a large financial institution, and passing on those savings to investors and borrowers, both can benefit from more competitive rates.

A new approach to interest earning investments
Greg explained how he used peer-to-peer in his investment mix. “If you are heading into retirement like me you might already have some money tied up in property, a share portfolio and super, but you might also have some cash on hand that you want to put into an interest earning investment. I found that the rates being offered through peer-to-peer lending were more attractive than what I could get from a bank term deposit and in these days of low interest rates, it seemed like a great alternative.”

Testing the waters
Greg was careful to do his own research to make sure the idea was not some fly-by-night venture. “I looked into it and it seemed to stack up so I decided to invest $5000 to test the waters. I used a peer-to-peer lender called RateSetter and was able to easily arrange the investment online. You just get onto their website, decide on the amount you want to place, choose a rate and choose a lending term. I spread my cash over one and three year terms and was really pleased with the results.

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The interest rates of peer-to-peer lending can be more attractive than those offered by the big banks

“The interest was paid on time and at the end of the term I decided to re-invest the capital plus put another $5000 in on a five-year term. Since then I have made other investments through RateSetter and have rolled over my earlier investments on to new terms. I’m currently earning 8 per cent on a three-year term per annum and 9 per cent on a five-year term.”

John Tymmons is another retiree who was attracted to the peer-to-peer concept. “A neighbour told me about the idea and after a lot of questions and some research I decided to give it a try. I am not a risk-taker by nature, so I took the approach that I would only invest what I was prepared to lose. I started with a $10,000 investment and I am really happy with the way it has worked out. It offers a lot better interest than you would get from a term deposit.”

Balancing the risks
Of course there are no absolute guarantees with peer-to-peer lending and there is potential to lose capital, but it is a matter of balancing your investments with your needs, as Greg explains. “I generally lean toward safe investments and I understood that with peer-to-peer you are exposed to some risks of a borrower defaulting, but RateSetter do screen the credit status of their borrowers and as far as I know there hasn’t been any money lost by investors due to a loan going bad.

“RateSetter also have something called the Provision Fund, which helps protect investors against defaulting borrowers. The borrowers have to contribute to this fund and if a loan is not repaid then the Provision Fund can help cover the investor against any losses. This was a really attractive idea for me because of the added security it gave.”

Good communication a big advantage
Both John and Greg commented on the level of communication from RateSetter and how it provided a high ‘comfort factor’ on their decision to invest, as Greg explains. “Once you place your investment you get an email to tell you as soon as your funds have been taken up by a borrower. There is constant communication to keep you up to date with what interest is being paid and to give you the option to re-invest or withdraw. There are also monthly statements so you know exactly what is happening and an annual statement at the end of the financial year for tax purposes. The communication has been really good and it makes a difference.”

John speaks of a similar experience with the level of contact and of the ease of using the online platform. “I am not all that computer literate, so I had a mate help me when I first used RateSetter, but it really is very easy and I always know what my investment is up to.”

Breaking through the big bank monopoly
Peer-to-peer lending is already very popular in the U.S. and U.K. and it looks like Australia is set to embrace this new way to achieve competitive interest rates. With banks being increasingly under the consumer microscope, many will be keen on the idea of side-stepping them for fixed interest investing.

What appeals to you about peer-to-peer lending? Share your thoughts below.

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