Last year around July, I decided to diversify my interest investments out of term deposits and into the peer-to-peer market.

The peer-to-peer market goes like this: Normally when I have $5,000 to invest, I put it in ASB and they pay me 2-3%. Then ASB goes and lends money to Rangi for 5-6% for his mortgage, or maybe even up to 20% for a personal loan.

See how smart the bank is? They take my money for 3% and then charge Rangi 20%, making the easiest 17% in the country.

The thing about greedy middlemen is, they’re the easiest to cut out. Because neither party actually needs the middleman in the end. All they do is connect a buyer and seller. If the buyer and seller can find each other on their own, the middleman becomes obsolete.

This is what peer-to-peer lending is. Harmoney is a peer-to-peer lending platform that cuts out the bank, and lets me lend money directly to the borrower. I get a higher rate, the borrower gets a lower rate, everybody wins.

The interesting thing is, we’re not actually cutting out the middleman here. All we’re doing is replacing the very greedy middleman (the bank) with a less greedy middleman (Harmoney). Harmoney still takes a cut. It’s just a lot less than what a bank takes.

How Harmoney Works

Harmoney is actually a very clever system. Instead of lending large lump sums of money, every loan is split into parcels of $25.

That means if I wanted to borrow $25,000, I wouldn’t get that from one lender. Instead, 1,000 different people would loan me $25 each. If I ended up forfeiting on the loan, the most any lender would lose is $25.

This allows you to diversify your loans really heavily, even if you only put in a few hundred dollars.

Interest rates

Each loan is also graded, based on the borrowers job security, income, credit rating, assets and so on. Here are the interest rates based on each borrower grading:

Fees

Harmoney isn’t cheap.

They take a 1.25% service fee on all interest and principal repayments, PLUS they take a 20% lenders fee on all interest and principal too. So effectively they shave 21.25% off everything that comes into your account. That fee does drop if you invest more than $10,000:

This is going to affect your returns a lot. For example, if you invest in some A1 grade loans, the listed interest rate is 9.99%. However, Harmoney is going to take 21.25% off that, so your actual interest rate is going to be 7.87%.

If you invest in some F-grade loans, the listed interest rate is 39%. However, after Harmoney takes a slice that rate comes down to 30.72%.

That’s still a crapload better than what a bank gives you, but remember your bank deposits are secured and even under a government guarantee. If your Harmoney loans get defaulted on, your money’s gone and you can’t get it back. So you need to decide if the extra risk is worth the premium.

Payment Protect

Some borrowers will opt in for Payment Protect, which is kind of like insurance for the borrower. If the borrower decides to take out Payment Protect, it means their loans get waived in the event of death or serious illness etc.

The effect of this is your principal actually increases, so borrowers need to pay you more than you actually lent, which is nice. Of course Harmoney takes a cut off this as well, I think it’s around 20% but it’s a little confusing, I didn’t really bother reading into that part too much.

You can read the full details on Harmoney’s info page.

My Harmoney Strategy

In July last year I decided to invest $5,000 into Harmoney to see if it was a legitimate interest earning vehicle.

I decided I’d spread my loans over all risk grades, but skewed heavily towards A and B loans. So my allocation looked something like this:

A1-5: 40%

B1-5: 30%

C1-5: 15%:

D1-5: 10%

E1-5: 2.5%

F1-5: 2.5%

I didn’t actually manage to get it exactly like that, but it was close enough. It actually takes quite a long time to get $5k onto the market since you’re investing in $25 parcels, so by the end I was just taking whatever loans became available, even if it didn’t fit my allocation perfectly.

I also didn’t distinguish between A1 and A5, or C1 and C5 etc. I just went with the overall letter grading to keep things simple.

I also was reinvesting my interest into new loans for the first couple of months, until I decided to just start pulling funds out as interest came in. Harmoney has a handy “Auto-withdraw” feature, so every Monday it automatically sends any available funds to my bank account. It’s always nice to see a new chunk of cash come in each week!

Results

Here’s what my Dashboard looks like after 9 months:.

You can see my Rate of Annual Return is at 11.39%, which is far superior to the term deposit rates I’m getting at ASB, which are around 3%. I’m also slightly above the platform average of 10.36%.

Defaults

You can see from my dashboard above I’ve only had $26.21 charged off, which is really just one parcel, so that’s a really good result. I expected a lot more charge-offs than that.

I do, however, have questions. Here’s the loan that got charged off:

As you can see, the loan was graded an E4, which is obviously super high risk. The lowest is an F5, so this one is pretty close to the tail end of borrower quality. What’s the incentive to lend to him/her? Well, the interest rate is a crazy high 36.64%.

But look at the details of the loan in my screenshot above. First, the guy wrote his reason for the loan was to “go on holiday without any worries.”

Well, if he meant “go on holiday without any worries of paying me back” then he succeeded with flying colours. Looking at the report he paid back a total of 96 cents. So basically, the guy went to Hawaii, came home, declared himself insolvent and had a free holiday on me.

How does this happen? Surely this guy should be punished somehow? Well, not really. I’ve worked in accounting and I know how this works – he’s been written off as a bad debt and it’s onto the next. I highly doubt Harmoney is still chasing him for my money. They have better things to worry about.

So what are the consequences for the borrower? Well, he’s probably just had a hit to his credit score, so it will be hard for him to get a mortgage or credit card in the future. That’s it. In terms of the money he borrowed from me, that’s well and truly gone into a few refreshing cocktails on a tropical beach somewhere. To be honest I’m not even mad. To whoever was behind this master plan, I sincerely hope your holiday was great.

To avoid this happening to you, however, I’d advise you to stick to loans graded in the high C’s and above. Lend to people who actually have businesses and mortgages and credit cards and care about their credit scores. The E and F loans have high interest rates but that means nothing if the borrowers just go on holiday and never pay you back (which is probably what will happen).

Overall returns

Here’s my full summary of funds:

I don’t actually like the way Harmoney lays this out. I used to compile financial statements for a living and I can barely follow it. For the average person it must be total gibberish.

To keep it as simple as possible, I’ll just look at it from a perspective of cash flow. It says I’ve got $217.18 available, which should be auto-withdrawn to my bank account any day. I’ve also got $4,003.45 in principal still outstanding, and I’ve already withdrawn $1,101.73.

So if you add all that up:

Principal $4,003.45
Withdrawals $1,101.73
Cash balance $217.18

Total: $5,322.36

So essentially my $5,000 has grown to $5,322.36 in 9 months. If you annualise that it should grow to roughly $5,429.82 after 12 months. That’s an annualised growth of 8.6%. Note, that’s not pure ROI because I’ve been withdrawing capital, and many borrowers pay off loans early, plus it includes RWT already taken off. That’s why it’s different to the RAR shown in my Harmoney account.

Still, 8.6% is better than any bank you’ll find.

Conclusion

Overall I think Harmoney is a decent way to diversify your interest earnings, if you have reasonable risk tolerance. My current annual return of 11.39% (or 8.6%, whichever way you want to look at it) is far superior to anything you’re going to get at any bank, credit union, convertible note or bond, so as far as pure returns go this is the best returning interest investment you’re going to find.

Do remember though that these loans are unsecured. It’s not nearly as risky as something like cryptocurrency, but significantly more so than a standard bank deposit or government bond. If we’re unlucky enough to see a serious recession that sees a lot of people go belly up, you could be in for a significant hit. When times are good, however, it seems to be a nice one to have in your portfolio.

Happy investing!

B

An update to this post was written on 2 April 2019. Click here to check it out.