The top 5 risks in property-backed P2P lending and how to mitigate them
Property-backed peer-to-peer (P2P) lending has become an increasingly popular way for investors to diversify their portfolios, enjoy attractive returns, and support real-world projects. By lending money directly to property developers or businesses, investors can often achieve yields higher than those available from traditional savings accounts or Cash ISAs.
But as with any investment, there are risks. However, understanding these risks can help you make informed decisions and protect your capital.
So, what are the key risks in property-backed peer to peer lending?
1. Borrower default risk
The main risk with any peer to peer loan is that the borrower may not be able to keep up with their loan repayments, sending them into default. In property-backed P2P, this could happen if a developer runs into cash flow issues, if there are construction delays, or if the completed property fails to sell at the expected price.
Default risk can be mitigated in a few ways. Firstly, it is important to choose an experienced and well-run peer to peer property lending platform which has a strong track record of carrying out intensive due diligence on every loan and every borrower. Good platforms will detail their lending process openly on their website and will be available to answer any investor questions.
Next, look for loans that are secured against property, with low loan-to-values (LTVs) attached. In the event of a default, the platform can take charge of the property and sell it to recoup investor capital if need be.
Finally, maintain a diversified portfolio by investing in a range of different property backed loans, alongside other types of investments such as equities, cash and bonds. This reduces the impact of any losses in one area of your portfolio.
2. Property market risk
Most adults can remember the Global Financial Crisis, which saw the value of UK properties drop by approximately 16% in 2008 alone[1]. Property values can fluctuate due to economic conditions, changes in demand, or shifts in interest rates. If the property securing a loan falls in value, it makes the collateral less valuable and could place investor capital at risk.
This risk can be minimised by investing in property loans with low LTVs. For example, Loanpad has an average LTV of 45.44% on all of our listed properties. This means that these property values would have to fall by 54.48% before the underlying collateral is affected.
3. Liquidity risk
Unlike listed shares, peer to peer loans are not instantly tradable. If you need access to your money before the loan term ends it may be difficult, depending on the type of account that you hold. Loanpad offers two accounts – Classic and Premium. The Classic account allows for daily withdrawals, offering the option of instant liquidity to investors. The Premium account pays a slightly higher interest rate but requires 60 days’ notice on any withdrawals subject to liquidity.
4. Platform risk
When you invest through a P2P platform, you are also exposed to the financial health and operational reliability of that platform. If the company behind the platform were to fail, your investments could be at risk of disruption or even loss. This risk can be managed by ensuring that you choose to invest in a platform which is regulated by the Financial Conduct Authority. You can also research your platform of choice on Companies House to check their most recent financial statements and ensure that they are keeping up with their disclosure requirements.
It is also possible to mitigate this risk by investing across a number of different peer to peer lending platforms, while also maintaining non-P2P investments.
5. Economic risk
Broader economic conditions such as high inflation, rising interest rates, or a slowdown in housing demand can affect borrowers’ ability to repay and the overall performance of property markets. While macro-economic events are beyond the control of the average investor, keeping on top of the latest financial news can offer some insight into potential red flags which might impact on certain areas of your investment portfolio. For example, rising credit card defaults may indicate that consumer credit investments are becoming riskier. Likewise, mortgage defaults could suggest looming issues in the property market.
Economic risk can also be mitigated by choosing relatively short-term loans, so that you are less exposed to long term economic shifts.
And as ever, diversification is essential to minimise your exposure to one particular sector.
[1] https://www.theguardian.com/money/2009/jan/06/house-prices-fall-in-december
| Don’t invest unless you’re prepared to lose money. This is a high-risk investment. You may not be able to access your money easily and are unlikely to be protected if something goes wrong. Take 2 mins to learn more. |
