Is Crowdlending worth the risk?

Investors November 29th, 2016
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Is Crowdlending worth the risk?

By Varun Gupta, Senior Vice President – Credit

Most great fortunes are built slowly. When it comes to investing money, everyday investors find themselves short of options and have a reserved risk appetite. In today’s financial climate most people are looking to the power of ‘crowd’. In this article, I would like to focus on a subset of the crowd movement in finance – lending.

What is crowdlending?

Crowdlending investors use marketplace lending platforms like ours to invest in the small and medium (SME) businesses seeking short-term loans (typically from 6 to 12 months) and make “fixed income” returns from the repayments made by the loan borrowers. These loans usually offer very high-interest rates – commonly more than 10 per cent per annum – reflecting the high risk and unsecured nature of the loan.

Why is it becoming popular?

Crowdlending is rapidly emerging as an alternative investment class for the local investors in Singapore. One positive characteristic of investing in this instrument is that it’s inexpensive and typically has very low minimum investment requirements. The investors can start investing from as low as SGD 1000. The convenience of investing online is further driving up the adoption rate by investors.

Major investment risks in Crowdlending

The biggest risk for investors is the loss of capital in case of payment default by the loan borrowers. By the virtue of their position in the economy, SME businesses are highly vulnerable to an economic downturn and get impacted the most during the time of slowdown. Any default in payments from their customers directly impact their ability to repay their outstanding loans.

Furthermore, there is an element of liquidity risk for the crowdlending investors. They run a risk of not getting their dues fully paid back on time. This happens primarily because SME companies lack a balance sheet strength to raise additional funds “in time” to meet their payment obligations.

How should you invest?

Choose a Credible platform
When deciding which platform to use, there are several things to consider. As a rule of thumb, you should only invest with Monetary Authority of Singapore (MAS) licenced marketplace lending platforms. As per guidelines released by MAS in June this year, all market operators facilitating crowdlending investments must comply with regulatory requirements. Further, investors should take note of the information published by the platform with respect to the loan investment offer. If a platform is transparent enough to share all this information, it should be a good place to start.

Spread your risks
To put it simply, if you only lend to four companies, a default could lock up or destroy 25 percent of your capital. If your loan is spread over 20-plus borrowers, each individual default has a much lower impact. You should always lend in small amounts and to as many borrowers as possible to spread your investment risks.

Limit your investments
As the crowdlending is a new investment type, investors should gradually increase their exposure in this class. Any crowdlending investing should sit in a portfolio which includes cash, bonds, and equities.

Is it worth the risk?

The development of crowdlending industry is a good thing for both investors and borrowers. In addition to contributing to the Singaporean business landscape, an investor can look forward to high returns. So yes, it is worth investing in the ‘crowd’.

How should you go about it?

One significant challenge is that the industry in its current form and size has not been tested through the worst of a recession. It is only then that the investors will discover how easy it is to access funds, how much the safeguards cover and what the maximum potential loss could be.

The product also needs to be compared to similar alternatives. These are not bank savings accounts and should not be compared against the risks associated with that. This is a high-risk investment with a potential to provide high returns.

A sensible starting point would be to not invest more than 5pc of any savings pot. After the ravages of a recession, perhaps that can be increased.

 


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