This week I was reading a blogger report that went like:
I invested in Crowdestor because after the default of Kuetzal and Envestio this will be my high risk/high reward platform
I do not want to talk about specific platforms here (even if you already know what I think about Crowdestor), I want to make a point of what does it really mean risk, return and proper risk management in general. This is the world we now live in:
The USD was the only developed market left where risk-free was offering a return, not anymore. This week the 10yr Government Bond hit an all time low at .66%, I think is not anymore a matter of if but when the US will follow Europe and Japan in 0 or below rates.
Mintos, to take an established platform as an example, is already your RISK choice. When junk rated companies in Europe can issue debt around four or five years duration at negative rates, getting 10% is already a huge return. Yields do not exist in an absolute vacuum, 10% can be a high or a low yield, you have to evaluate it in respect of the spread over risk-free rate; it is the first time in history we experience negative rate so you have to forget what in the past could have been a high but achievable rate of return, like the Crowdestor 20%.
Or consider the picture below:
According to standard academic studies, equity risk premium had historically been between 5% and 8%. Even if we want to be conservative, setting risk free rate at 0% and equity premium at 8%, Crowdestor return at 12% over S&P500 put you slightly below Peter Lynch and Warren Buffet…do you think is credible? The above picture includes the best investors EVER, not the best in the last ten years, imagine how hard is to get in their league and now you find yourself in the top20 with your movie funding loans? Sure.
Do not be uber-greedy. You write high risk but in reality you are only looking at the high return, a recipe for disaster. Why do you think those 20% loans exists? Because no one else wanted to lend them money at lower rates: no bank, no money manager, no one in their network, not even a more established p2p platform. And we live in a world where everyone is hungry for yield. You are their last hope, good luck Obi-Wan Kenobi.
On a related note for my fellow Seedrs investors out there, same logic applies to venture investing. Companies that raise on Seedrs (or similar platforms) are more likely to go bust, and therefore more risky, compared to the average default statistic on start-ups. A Seedrs alumnus is a company that did not receive funds from prominent VC funds, less known VC funds, family offices, other money managers. It is not the bottom of the chain but it is closer to the bottom than the top. (yes, there are few ‘gems’ that raise on Seedrs because they see it as a marketing campaign *cough Revolut *cough but they are the exception, not the rule)
What is the impact of Coronavirus on p2p lending?
I do not know, but thank you for asking. What do I know is that in recent years a lot of cheap funding was available to any company willing to ask: this created a multitude of ‘zombie’ companies, companies that in normal (can we define normal? they would have borrowed at 10%+ rates?) times would have defaulted but thanks to very low interest rates can be humming along covering their losses with increasing debt levels. The virus will impact revenues and for zombie companies that would be the final shot in the head; for sure another cut from the Central Bank will not do the trick and save their asses again.
I had holidays planned that I had to cancel but I will go on holidays later. If I cannot find a new phone because the Chinese factory that produces it was closed, I will buy it once the factory is re-opened. I do not want to over-simplify the matter, but in general healthy companies will lose revenues for a quarter (I hope only one) and then regain them back the next. For companies that were over-leveraged, mis-managed or without a liquidity risk management plan, this will be the fatal blow. Economies like Italy, where there are a lot of small and mid size companies, will suffer more. More defaults will mean more unemployment, and more layovers will mean more personal debt defaults. Maybe a recession. For sure a recession in Italy.
Excluding South Europe in 2012, this will be the first recession for many platforms. If you have a platform with exposure to Italy (October, Housers, Soisy the ones I know) prepare yourself for a wild ride. For the others, it depends how much the virus spreads in Europe, its impact on international trading and how much it will scare investors. Do not forget that some platforms are start-ups with very thin balance sheets, less investments will mean less revenues and some may run out of money to manage their operations.
What I am reading now:
Follow me on Twitter @nprotasoni