Goals and Opportunity Cost
Okay. Thanks to TiredButHappy, it has come to my attention that what I am doing may (in fact) be slightly wrong.
Here is my take on Prosper, as a whole. I view Prosper as a chance to earn a specific rate of return on my money with less risk than the stock market. Every stock market investor (and I definately consider myself one of those, even if my portfolio is miniscule) is looking for returns that beat the market average over the long term BECAUSE a 1% or 2% difference in rate of return compounded over 30 or 40 years REALLY adds up. So, basically, I have set up my Prosper screening criteria so that I can earn a minimum risk adjusted rate of 12% or higher on my money.
If I don't do that, then I might as well put my money into an index fund and take my chances with that. The opportunity cost of doing business on Prosper would be too high. Anyone who has taken Economics in college might know what I'm talking about here, but for those that didn't (or don't remember) it works like this.
Given: You have a limited amount of resources (funds) available.
Given: You have nearly unlimited ways to use those resources.
Cost: Whatever you choose to spend your resources on is the COST of doing business.
Opportunity Cost: The DIFFERENCE between what you actually spend your resources on, and what you COULD have spent your resources on.
So....every month, I get a paycheck, and I choose to spend it on paying off bills, buying food, providing shelter for myself, etc, etc....and with whatever is left over, after I have tried to save something for the future, I have the choice of what to buy with my "spending cash".
I have chosen to allocate $50 per month to Prosper, because I think there is a chance that eventually, the interest earnings from Prosper could be enough to supplement or replace my current income. Much like someone investing in stocks, bonds, a savings account, or other retirement vehicle, I view Prosper as a chance to one day escape the rat race.
That being said, I don't want to be a "parasite" on society like the payday lenders out there that prey on people charging usurious rates. I simply want to beat the market average...otherwise, I am incurring an opportunity cost.
Now, I could just lend to people like myself at rates of 15% or so and beat the market...but I think that my screening criteria will allow me to do better than that, AND help some people get out from under payday loan rates of 30-80%. If someone out there has a payday loan on their back at 50% interest, as well as 3 or 4 maxed out credit cards at 29% interest and I am willing to lend them money at 24% interest, then they are right to jump on that offer.
I got into this because my friend Ray was in that situation. He didn't want to declare bankruptcy after his divorce...but he was buried under $45,000 in credit card debt that his wife and he had accumulated during their marriage and he was being charged 29.99% APR on all of it. He only makes $42,000 per year. After paying his rent, utilities, food and car note, he wasn't left with enough money to make all of the minimum payments. Adding child support on top of all of that meant that every month, someone wasn't getting paid, and his credit was getting worse and worse, while his balances were never dropping because late payment fees and finance charges were buring him.
Finally, he was able to consolidate it all into one payment of $700 per month. It's still a lot, but at least he doesn't have to work 2 jobs now to make it, and it will all be paid off in just 4 years.
So, by lending to people like Ray...high character people that are doing their best to pay their bills and get back on their feet, I feel like I am helping their lives a little easier. They, in turn, are helping me accumulate enough money to one day retire. It's a win-win situation. For 3 years, they pay me interest, and at the end of that 3 years, they are better off financially, and so am I.
Just my thoughts....
I welcome feedback.
~Scott
Here is my take on Prosper, as a whole. I view Prosper as a chance to earn a specific rate of return on my money with less risk than the stock market. Every stock market investor (and I definately consider myself one of those, even if my portfolio is miniscule) is looking for returns that beat the market average over the long term BECAUSE a 1% or 2% difference in rate of return compounded over 30 or 40 years REALLY adds up. So, basically, I have set up my Prosper screening criteria so that I can earn a minimum risk adjusted rate of 12% or higher on my money.
If I don't do that, then I might as well put my money into an index fund and take my chances with that. The opportunity cost of doing business on Prosper would be too high. Anyone who has taken Economics in college might know what I'm talking about here, but for those that didn't (or don't remember) it works like this.
Given: You have a limited amount of resources (funds) available.
Given: You have nearly unlimited ways to use those resources.
Cost: Whatever you choose to spend your resources on is the COST of doing business.
Opportunity Cost: The DIFFERENCE between what you actually spend your resources on, and what you COULD have spent your resources on.
So....every month, I get a paycheck, and I choose to spend it on paying off bills, buying food, providing shelter for myself, etc, etc....and with whatever is left over, after I have tried to save something for the future, I have the choice of what to buy with my "spending cash".
I have chosen to allocate $50 per month to Prosper, because I think there is a chance that eventually, the interest earnings from Prosper could be enough to supplement or replace my current income. Much like someone investing in stocks, bonds, a savings account, or other retirement vehicle, I view Prosper as a chance to one day escape the rat race.
That being said, I don't want to be a "parasite" on society like the payday lenders out there that prey on people charging usurious rates. I simply want to beat the market average...otherwise, I am incurring an opportunity cost.
Now, I could just lend to people like myself at rates of 15% or so and beat the market...but I think that my screening criteria will allow me to do better than that, AND help some people get out from under payday loan rates of 30-80%. If someone out there has a payday loan on their back at 50% interest, as well as 3 or 4 maxed out credit cards at 29% interest and I am willing to lend them money at 24% interest, then they are right to jump on that offer.
I got into this because my friend Ray was in that situation. He didn't want to declare bankruptcy after his divorce...but he was buried under $45,000 in credit card debt that his wife and he had accumulated during their marriage and he was being charged 29.99% APR on all of it. He only makes $42,000 per year. After paying his rent, utilities, food and car note, he wasn't left with enough money to make all of the minimum payments. Adding child support on top of all of that meant that every month, someone wasn't getting paid, and his credit was getting worse and worse, while his balances were never dropping because late payment fees and finance charges were buring him.
Finally, he was able to consolidate it all into one payment of $700 per month. It's still a lot, but at least he doesn't have to work 2 jobs now to make it, and it will all be paid off in just 4 years.
So, by lending to people like Ray...high character people that are doing their best to pay their bills and get back on their feet, I feel like I am helping their lives a little easier. They, in turn, are helping me accumulate enough money to one day retire. It's a win-win situation. For 3 years, they pay me interest, and at the end of that 3 years, they are better off financially, and so am I.
Just my thoughts....
I welcome feedback.
~Scott
posted by ~Scott~ at 12:21 PM
2 Comments:
Scott,
Great post! This addresses the questions I raised in your Shylock post.
Clearly you know more about economics than I do, and you're better at math than I am. I can't figure out my opportunity cost whatchamacallit.
I just want to use Prosper to help folks out, and to make a decent rate of return at the same time.
Sounds like we have the same goals, you're just a little more systematic about it than I am.
Oh well, in my haphazard way, hopefully my finances will continue to improve over time.
Great post Scott and thanks for posting a comment on my blog. I will not be able to accept your offer (through your comment) to join your group on Prosper - but look forward to reading more of your thoughts on Prosper.
BTW - I have added another data analysis article on Prosper on my blog.
Sanjeev
http://www-personal.umich.edu/~sankum/idle/
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