Saturday, August 20, 2011

Tax Rate

As I was writing about how I determine the sales price of my notes, I realized that I had the tax rate at 15%. Why 15%? That is that value i was using for my stock spreadsheet. Short term gains are basically regular income. To be on the safe side, I should probably use 25%.

Of the notes I've sold, one had a -6% APY (because of tax). I think this one was a typo when entering the sales price.

The rest were over 16%. Many much over 16%.

So I made a mistake with the tax rate calculation, but because of my margins of safety, I'm still getting more than 16% APY overall.

Strategy Change After One Month

I think I've mentioned that I require a minimum of 16% APY on my investments. So after the first month I'm getting 24% to 46% return, why would I change? My other priority, time.

I'd like to spend less than 30 minutes a week with account maintenance. I was selling more than three notes a week, which didn't take much time to turn around and buy a new note, but I'd like to spend less time churning notes.

Ideally I'd sell one, maybe two, notes a week. That way I don't feel like I've got a lot of money "sitting on the couch" waiting until I refresh to sell orders.

So to compensate, each week I increase my target APY for my sale price calculation. Currently it's at 18% instead of 16%. Remember that is the minimum annualized gain if the note sells seven days after I put the sell order in, so the gain will be higher.

Basically I feel I am pricing my notes too low so they are selling too fast. I need to create less demand for them by increasing the price, which will allow me to spend less time managing my account. It also has the side benefit of higher return per sale.

So now my strategy is this:

1. Buy high return, high risk notes within the first year of being issued.
2. The riskiest of my notes get offered for sales for whatever rate (currently 18% APY) sells less than 10% of my notes per week.
3. As money accumulates in my account (payments, interest, sales proceeds) look to buy notes. For small amounts I'm not so picky about the risk/interest rate.

Friday, August 19, 2011

My Initial Lending Club Strategy

I look for a minimum of 16% return per year. So my strategy with Lending Club was initially to fund a bunch of F rated notes (default/return rates: A 1%/6%, B 3%/8%, C 5%/10%, D 6%/11%, E 6%/13%, F 8%/14%, G 11%/15%). I looked at the data and decided I could get 16% holding those notes. I was glad there was a way to cash out, trading notes, but wasn't interested in trading frequently.

Then I found out I lived in a state that does not allow funding of notes. So I stated to look at buying notes. My strategy became to look for notes that are not, and have never been, behind, with the lowest premium, and the highest return. Pickings can be slim if you are picky.

And speaking if picky, I do look at the notes to see what is behind them. I look for people paying off, or consolidating credit cards or other debt. Lending Club stats show these to be low default loans. I also look for home owners, although info let in renters some times. I'll buy notes other than consolidation, but I really shy away from "start a business" and purchases.

When looking to buy a note, I filter out anything that is less than 17% and sort by premium. You can buy notes worth hundreds, or even thousands, but I'm looking for anything up to just over $25. Initially it was to diversify my default risk, but it has come to be key to my trading strategy.

I try to make sure all of my money is in a note at all times. Your money can't work for you if it's sitting on the couch.

I'm also a big fan of a concept, Make-Me-Move. The idea is that you are not emotionally tied to your house (or in this case note) and would sell it, for the right price. So my spreadsheet calculates at what price I could sell each note for in a week and get a 16% return per year rate, taking into account selling fees (1%), taxes (15%) and payments received so far. This is then my Make-Me-Sell price, the idea being I could get a guaranteed 16%+ return without worrying about default.

My theory is that defaults generally don't happen at two times, the beginning of a loan and the end. At the beginning they have full intention of paying every month for three or five years. But then after a while, life happens. If they survive life hapenning, they get to the exciting time of "It's almost payed off!" the most dangerous years in a loan are the middle ones (or one in the case of a three year note).

So if I can buy new notes or notes about to finish out, I'll lower my risk of default. Hence why I set all my notes to a Make-Me-Sell price.

My spreadsheet also has a risk calculation. It is based on several factors, but determines how risky I think the loan is. The riskier notes I set their Make-Me-Sell price for 16% APY. The notes I'd like to keep, I still have a price, but it could be up to 80% APY. In other words, I don't want to be a day trader, but if you really want it, you're going to pay a high premium.

You may be asking why I set a 16%-80% return if sold at the end of the week. Why not month (which is what I do for stocks)? I'm not fond of the small window, I'd much rather a month. Foliofn only allows sell orders to remain in effect for seven days. This is ok when you have 15 notes, but not 800 (or for that matter 80). I think I will sort my spreadsheet by risk factor when the number gets unwieldy, and only offer my 15, or 30 most riskiest loans for sale.

This cycling through of my worst loans helps me ward off the most likely defaulters (assuming my risk calculations have any real world worth) and lock them in at 16%+ APY. The + comes in because the calculation of price assumes it is sold in seven days. However, when they sell it is usually not on the last day. Time value of money makes the actual APY more than 16%. Of course the longer I hold a note, the less those seven days makes a difference.

That is the basics of my initial strategy. Within a month of actually acting on this strategy, I saw some things that needed to change. So next up, how I'm changing up my strategy for month two.

What Is Lending Club

In general I want nothing less than 16% per year returns on investments. So when I started looking at Lending Club, I saw a potential for 16% return.

The idea behind Lending Club, and other Peer-To-Peer lending companies, is that individuals get together and offer to loan small amounts to people, which together makes one big loan for the borrower. Each borrower is funded by dozens or even hundreds of small loans from individuals.

For investors, this means that the risk of default is higher (exposed to more potential defaulters) but the default amount is limited. it also means higher returns, since Lending club just takes 1% of the monthly payments. For borrowers it means they get a lower interest rate. It's a win-win.

I've looked at another Peer-To-Peer lending company before, Prosper, but by the time I got around to funding an account, Texas regulated them out of the state, at least for funding loans (you can still borrow from them).

I started to look into Lending Club, and opened an account. Turns out, in Texas, you can't fund loans on Lending Club either. However, you can buy notes others have funded. This gives the Funder liquidity, and people in Texas the opportunity to participate.

I'm kind of glad I was introduced to Peer-To-Peer lending through the loan trading platform. By getting in through loan trading, I avoided the unfamiliarity barrier to getting started in trading loans, which is now an integral part of my investment strategy.

Lending Club had done a great job of analyzing loans, defaults, returns, etc. You can also download a giant spreadsheet of all sorts of loan data. The data isn't current, it only goes through the end of last year, but it is a lot of data if you want to analyze it.

Lending Club uses Foliofn for note trading. I this is really where the best returns lie. There are a limited number of people who can "write" (fund) notes (not us in Texas, for example). Those who cannot fund notes can only participate via trading, ie we need to buy notes. There aren't many whose only option is to trade notes, which creates a demand for notes. The raises the premium paid for notes (supply and demand).

Lending Club has set the "ideal" bar at 8,000 notes, which they say you will have a guaranteed positive return. So there is a high demand for notes. Those who can write, or fund, notes may not be comfortable with trading notes. Usually, I think, people get started in Lending Club funding notes, intending to hold them for the duration of the loan (3-5 years). They know they can sell their notes at any time in case they need to liquidate, but don't consider trading notes to be anything more than a liquidation strategy.

I think there are some whose only strategy is to fund loans, and then turn around and sell them. They never receive their first monthly payment. The also don't have to worry about defaults, because they don't hold the loans long enough (you can't default until you miss a payment).

So, in a nutshell, that is my view of Lending Club. It's a win-win-win for lender, borrower and Lending Club.

One Month Of Lending Club

(See other Monthly Status Updates)

Well, I was surprised today. I had a little extra money come my way, so I wanted to try a new investing platform, peer-to-peer lending. I'll discuss in another post more about my philosophies and the difficulties of government regulations in trying to get started in peer-to-peer lending, but I wanted to give some stats after the first month (more for me to look back and say, "What a fool I was.").

Currently I am using a Google docs spreadsheet to track my notes and my performance. I started out looking for a minimum of 16% per year average return. After the first month (mid-July to mid-August), Lending Club reports that my Net Annualized Return (NAR) is 24.20%, which puts me in the top 18% of lenders at lending club. More specifically, of those who have invested less than $1,000, I'm in the top 100%. The average return for the less than $1,000 invested crowd is 5.72%. The average for all investors in 9.64%.

I'm afraid this is more of beginner's luck than experience. As much as I'd like to say that it is my investor savvy, with the little bit of money and few notes I have, I'm afraid I've just gotten lucky so far (no defaults, but investing in the riskiest notes).

So, so stats from my spreadsheet:

I have 15 Active notes right now. I've purchased those notes with $340. The scheduled monthly income from those notes (principle and interest) is $10.46, or around 3% per month (at which rate it will take about 2 1/2 years to recover my investment). I do put every note up for sale, at an annualized 16%+ interest rate (more on the + when I post about my philosophies). I've sold 17 notes so far, although I'd rather not sell notes. My median annualized return on selling notes is around 46%. I average about 3 1/2 notes sold per week. I'd like to get this down to 1 1/2 notes sold per week. Apparently 16%+ is too low an asking price. If you annualize the proceeds from the sale of the notes (minus tax) I'm getting about 18% per year on selling notes. The notes that sell I hold for of an average of about 2 weeks.

I haven't had a default yet. Of the notes that I currently hold, I have one each of A, B, C and E. I have two F5 loans. The rest are G loans. I paid an average of $22.65 per note.

So there is the snapshot of my first month. I look forward to seeing how this data changes over time.