Where P2P fits in a diversified portfolio

Savvy investors understand the benefit of a diversified portfolio – especially during times of economic volatility. The post-Covid investment landscape has been characterised by uncertainty and has led many seasoned investors to reimagine their portfolios in a way that is better suited to the current investment landscape.

For some, this may mean choosing more fixed income opportunities and carving out a small portion of high-yielding investments.

Peer-to-peer lending can offer fixed returns which are competitively priced. As with investment products, investors should always carry out their own due diligence to ensure that they have chosen a regulated platform which has a good reputation in the market.

Why diversification matters

Diversification is a cornerstone of sound investing. By spreading investments across different asset classes, sectors, and geographies, investors can reduce the risk of large losses from any single investment. P2P investing is not correlated with the stocks and shares market, or with the public bond markets, so it offers a way to diversify your money outside of the mainstream. If the stocks and shares portion of your investment portfolio sees a sudden drop in value, the P2P segment of your portfolio is unlikely to be impacted.

Creating a diversified portfolio can also mean choosing a variety of yield opportunities. For example, the majority of investors will choose to keep a certain amount of their investment portfolio in a low-interest cash account, or in low-paying government bonds. These types of investments exist at the lower end of the risk spectrum and offer some reassurance to investors that in the event of a market crash, at least one part of their portfolio will be shielded from the risk of capital loss.

For most investors, a diversified portfolio is about creating balance. Higher-yielding investments often come with higher risk. It is possible to earn double digit returns but there is a risk that in the event of a borrower default, some or all of the investor’s capital investment could be lost. The risk of capital loss has to be weighed up against the opportunities to earn a higher return. In a well-diversified portfolio, higher risk investments should be balanced out by the inclusion of lower-risk strategies elsewhere.

Diversification within P2P

It is also possible – and advisable – to add diversity within the P2P segment of your investment portfolio. You can do this by investing your money with more than one platform, and by choosing to spread your investments across multiple P2P loans, rather than manually selecting one loan at a time.

By spreading your investment, you are also reducing the risk of capital loss. If all of your money is tied up in one P2P loan, and the borrower goes into default, you could lose some or all of your initial investment. However, if you are invested in 100 loans and one of them goes into default, that would represent a maximum loss of one per cent of your overall portfolio.

Additional P2P diversification can be added by splitting your money across several different types of P2P loans. It is possible to use P2P investing to access property-backed loans, consumer loans, business loans, and even litigation loans. Research the market and ensure that you have all of the information you need before committing your funds.

P2P lending can be a valuable component of a diversified investment portfolio. By adding an alternative asset class that offers the potential for higher returns and lower correlation to traditional investments, retail investors can enhance their portfolio’s risk-return profile while maintaining a focus on long-term growth.