Diversification ensures that you do not “put all your eggs in one basket” and create unwanted risks to your investments. Otherwise known as concentration risk, it is one of the biggest threats to an investor’s portfolio.
The concept of risk management and diversification going hand in hand to ensure a healthy investment portfolio is the same concept applied to SME lending on the Validus platform. As investors on our platform, we want to ensure that a single borrower should have no more than a marginal negative impact on your Validus portfolio. Therefore, we encourage you to lend to various SME borrowers across different sectors. Here, we narrow down some considerations to take into account when diversifying into SME lending via the Validus platform.
What diversification means on the Validus platform
As portfolio diversification reduces concentration risks as compared to a concentrated investment portfolio, it is only logical for investors to diversify your investments on the platform. With various product offerings on the platform, there are three ways to diversify into SME lending via Validus such as Product Diversification, Sector Diversification and Tenure Diversification.
Risk is synonymous with investments. The more you invest, the higher the risks but also the higher the returns, vice versa. In the context of SME lending, the term “risk” is the degree to which we are able to control and create visibility around repayments. There are four categories of product diversification in SME lending:
Diversifying your portfolio into different sectors does not necessarily mean risks are eliminated. With the current macroeconomic climate, a safer and more predictable option would be to invest in financing projects that have already been delivered. With Invoice Financing whereby payment is made only once the project is done, you can diversify into various sectors, broaden your portfolio and also reduce the risk of being vulnerable to the macroeconomic environment.
If you’re looking to invest opportunistically and prefer flexibility, Tenor Diversification would be the best choice for diversification into SME lending. Products such as invoice Financing and PO Financing have similar liquidity profiles and are ideal for short-term investments. WC Financing, however, is more suited for long-term, high yield investment opportunities.
Ensuring diversification in your Validus account
Validus allows you to allocate smaller amounts across different SMEs via different Product Diversification. By doing so helps Buyers avoid concentrated exposure to a particular SME. When planning your investment strategy, you must consider that a single SME will have multiple Invoice Financing or PO Financing with different Buyers across multiple projects. SMEs like other businesses may have many different clients, each with different relationships, delivery sizes, and payment terms.
Therefore, when planning to maximise your borrower exposure, you should keep in mind that a short-term loan tenure may increase your capacity for diversification. For example, if SMEs have an average of $150,000 financing outstanding and you invest $1,000 in each SME, there may be a rise in new Invoice Financing each month with a loan tenure of three months on average.
Leveraging on Auto-Invest
Unlike other asset classes where you have to monitor every few months, the Auto Invest feature helps you to “set and forget”. Through the Auto Invest feature on Validus platform, you can set your concentration exposure by indicating your maximum exposure amount per Borrower. The feature then automatically allocates funds according to your preferences, and helps optimise fund utilisation and maximise returns.
By investing in various SMEs across different sectors, diversification helps to optimise your portfolio especially during times of an unpredictable economic climate, which is vital to keeping risks at predictable and manageable levels.
Validus’ Auto Invest feature automates the management required to allocate to several opportunities at once, thereby creating the opportunity for scalable, risk adjusted returns. Investors may use our investment diversification calculator to better picture how they can benefit from portfolio diversification.
As the demand for SME financing increases, P2P lending offers investors the opportunity to capitalise on more opportunities that offer low-volatility investing for higher yield, ongoing liquidity, and greater portfolio diversification.
However as with any investment, the investor should always do their research and understand the product and how it may add value to a portfolio as past performance of an asset class is no guarantee of future results.