Friday, May 05, 2006

I want to be the bank...prosper.com

I've set up an account on prosper.com.
After reading about it for a while, I decided to put $500 into it.

strategically loaning money to other people (via a diversified portfolio to manage individual loan risk) would fit into the bond asset category, however as the loans are unsecured, I question how bond-like they will really be - though I assume most business bonds are unsecured as well.

The money will not become available for lending until Monday.

For my initial foray, I will stick to A and AA seeking interest rates higher than 9% and B grade lenders seeking interest rates above 13%. I'll try to lend money out in $50 increments.

As loans are fixed and illiquid for 3 years, I don't want to tie too much money up. I estimate I'll put in $500 a month until I have about $3000 in loans outstanding. Afterwards, I'll examine performance and decide how much more I want to put into it.

My biggest concerns are:

  1. It's unclear how macroeconomic changes, such as increased short term interest rates, will effect loan defaults - I assume they will correlate
  2. the money is illiquid once lent out
  3. would I be better served putting this money into ETFs for - even in higher risk investments
  4. question: how does this asset class correlate with my other investments - is it effective diversification?
  5. is the prosper pool of loan applicants big enough to provide quality borrowers?

As I won't be putting too much money into this investment bucket (as an overall percentage), I'll have some time to see how it works and learn to optimize.

Frankly, the proposition becomes really tantalizing when you're charging interest rates north of 15%, but is the risk worthwhile?

Does anyone know of any tools that allow you to model interest rates and risk to optimize your portfolios performance?

The one reason I can't really be the bank is that I'm not allowed to loan out more money than I have. US banks are required to keep a minimum ration of deposits to loans. It's set by the Federal Reserve and is fairly low -- about 8-14% now (small banks can operate with a reserve of 3%), but the important point is that they can lend 10 times what they have. Now that's leverage!! Imagine lending for an interest rate of 8% leveraged 25 times - that's a 80% return - and it's more than likely the money at 8% is secured debt!! Wow! You can read more about it here at the Federal Reserve Bank of New York.

Hmmm if loaning money is so profitable, why aren't banks more profitable?

Have a wonderful Friday,

makingourway

2 comments:

franky said...

I don't know of any tools per se, but I've recently posted about prosper and there have been several good comments over at my blog. I have a round-up here.
Also, cellardoor has a prosper blog here.
Hope that helps somewhat.

makingourway said...

Franky,

Thanks for the comments and link, I'll be sure to check them out.

I've already seen cellardoor's blog and he has some interesting tools related to prosper.

Regards,
makingourway