How risky is private lending?

Risk is a part of every investment, no matter how safe and secure it may appear. The key is to select an investment strategy that allows you to minimize risk as much as possible while maximizing returns.

Experts from across the financial industry regularly weigh in on which investments are most hazardous. From stocks and bonds to money market funds and futures, there's no shortage of investments that represent potential loss.

Recently, The Wall Street Journal went out of its way to spotlight popular but dangerous investments. These included liquid alternative funds, nontraded real estate investment trusts, leveraged and inverse exchange traded funds, structured notes and unconstrained bond funds.¹

"All these investments have at least one thing in common: They have seen their popularity soar recently as investors seek protection from perceived market dangers – or as fund companies market them heavily," wrote Kirstin Grind for The Wall Street Journal. "They also are hard to understand, lack transparency, are expensive and don't have proven performance records."

"Some investors mistakenly believe that taking on more risk increases their chances for high returns."

Some investors mistakenly believe that taking on more risk increases their chances for high returns. However, as USA Today reported, data from the past 50 years shows the riskiest investments have not been the most profitable

According to USA Today, research indicated that shares of small growth companies are the most volatile over the long term based on analysis of the stock market.

"Small growth stocks, on average, have posted 9.1 percent annualized returns," Matt Krantz wrote for USA Today. "That's below the 10.1 percent annualized return of the S&P 500."

Fortunately, there are ways to generate passive income while also reducing risk. In fact, this is just one more reason individuals turn to private lending.

Many people may turn to private lending as a way to manage investment risk.

Taking control of risk factors
As has been stated previously, no investment strategy is absolutely risk-free. However, peer-to-peer lending offers you a channel that is much safer when compared to many other investment options, primarily because it puts you in control of how much risk you take on and when.

As the lender, you decide who to make money available to, and under what circumstances. If a borrower doesn't meet your lending requirements, you're under no obligation to provide them with money. It's as simple as that.

And by carefully crafting borrowing requirements and smartly structuring the loans you do provide, you'll position yourself to lessen risk and increase the opportunity for reward.

REI Tips highlighted numerous reasons why private lending in the real estate market offers greater security than owning property yourself.³ For one, you can avoid the perils that come with tying up capital for extended periods of time. The loans you make will be for relatively short-term lengths, meaning you can depend on receiving money back for other projects or for personal use, allowing you to respond quickly to a constantly changing investment market.

Additionally, since you're in control of who you loan money to, you can ensure you only provide loans to borrowers purchasing in areas you feel comfortable with. Even if a borrower defaults, you can become the owner of a property that promises a solid return on your investment.

Finally, since peer-to-peer borrowers are willing to pay higher rates in order to obtain the funding they need, you have an extra buffer against inflation and rate changes in the market.

With the proper training and support network, you will be able to choose your borrowers wisely and structure loans to diminish the potential for losses. Get in touch with the experts at MPactWealth for a free business planning session to discover the financial tools you have at your disposal, as well as how best to use them to create passive income.

1. "Five Popular—but Dangerous—Investments for Individuals," Kirsten Grind, 2014, The Wall Street Journal.

2. "Ask Matt: What investment is the riskiest bet?," Matt Krantz, 2012, USA Today.

3. "Hard Money Lending Less Risky Than Owning Real Estate?," Dyches Boddiford, REI Tips.

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