4 Things Investors Should Know About The Consumer-Loan Market

The rise of financial technology in everyone’s life, such as Affirm and Apple Card, has also created investment opportunities.

Stocks, bonds and mutual funds represent some of the usual suspects for the typical investors, but one possibility that is sometimes overlooked is the consumer-loan market.

In many of these scenarios, the investor is lending money to a specific borrower and earns interest when the borrower pays back the money, says Ron Oertell, Chief Financial Officer at LendingUSA, LLC. In other cases, the investment is in the stock for a company that makes consumer loans.

Ron200x200“For those people who believe the market is going to remain strong and want to take part, there are opportunities out there,” Oertell says.

There are a number of ways for an individual investor to become involved in the world of consumer loans – and potentially make a steady return – and each comes with variants, such as the life of the loan and the size of the investment, Oertell says. Just a few of the options, along with their pros and cons, include:

Direct exposure and access. It’s possible to invest in consumer loans directly through Prosper and other such marketplace lenders, Oertell says. This approach gives the investor direct access to consumer loans. “Also, it’s easy to determine the risk level because the loans are graded by the lenders,” he says. The cons: The investment is concentrated in just a few loans and it is difficult to exit the investment prior to expiration. Further, investing in a small number of loans limits the benefits of diversification. Meaning, a single loan may or may not perform as well as an entire pool which has the benefit of large numbers.

Indirect exposure and access. Instead of investing directly in the loans themselves, another option is to invest in public companies that provide loans to individuals, Oertell says. Some of those companies include GreenSky (NASDAQ: GSKY), OneMain (NYSE: OMF) or credit card companies. “One of the pros for doing this is diversification because the investment would be in the stock of the company, not the loan itself,” he says. In addition, you are taking advantage of the management’s professional knowledge in making the decisions in which loans to invest. “But this, too, comes with cons,” Oertell says. “Your investment is subject to the operational risks of the company, you don’t have the ability to research and select the ‘best’ loans and, of course, you are subject to the risks of the general equity markets.”

Pooling your investment with others. Another option is private offerings for accredited investors. In this situation, investors can receive a fixed return or a percentage of the gains (depending on the exact transaction) and the money is then, in turn, pooled with other investors. “Such pooled money is used to purchase consumer loans,” Oertell says. Some pros: You have more diversification than if you bought individual loans, and you can rely on other investors to make the underwriting decision. Some cons: If you want to sell your investment, the secondary market is limited, and fixed returns limit upside potential.

Investing in private companies focused on consumer finance. In this case, once again you are investing in a company that makes loans rather than investing in the loans directly. Pros of this include the ability to do the most due diligence and there’s potential for a higher return. Among the cons: These can be hard to find and they are only for certain investors. This can also be very risky to an investor that is not familiar with the dynamics of consumer finance.

Of course, all investments come with risk, Oertell says, so potential investors must complete their own due diligence carefully.

“Investing in consumer loans provides a good way for someone to broaden their portfolio,” Oertell says. “But you need to do your homework and understand what’s good and what’s potentially bad about the option you’re considering.”


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