While this isn’t financial or investment advice, we can at least help you understand a strategy behind how to make money on Groundfloor.
Understanding Groundfloor Investments
First, let’s carefully review the key characteristics of the limited recourse obligations (LRO) investment offerings available through Groundfloor:
- LROs are debt securities. Any potential return will be based on accrued interest – not from appreciation.
- The real estate loans available through Groundfloor, on average, are repaid in 10 months. Though data on more recently repaid loans shows that may be increasing.
- All LROs have full balloon repayments. This means that the principal and accrued interest are due together in one payment. There is no monthly or quarterly interest being paid on the loans.
- It is common for loans to not be repaid on their scheduled maturity date. Repayments could happen both early or late, both of which can affect their returns.
- Lastly, it is possible for loans to default and go into foreclosure. In this case a loss of principal may occur.
Groundfloor Investment Strategy
Now that we have a good foundation of what to expect from LRO investments, let’s get into the strategy. We’ll dive into the why behind it all in the sections below.
Groundfloor allows you to invest with as little as $10. It’s OK to start slow and small to make sure you understand and are comfortable with the platform. That having been said, there are typically enough loans available for investment to easily absorb hundreds of dollars of investment per month.
The right amount will be up to you and it can vary over time. It’s a good idea to at least get a rough sense for how much you want to invest on the platform though as it will help us in later steps.
From the Account Settings page, you can find the Recurring Transfer Schedules option. Or you can click here if you’re logged into your Groundfloor account. On this page you can set the day of the month and the amount you would like to be automatically transferred into your Groundfloor account.
The amount you choose is up to you, but should be based on what you decided for step 1. For example, if you decided you wanted to invest $1000 in total, you could set up a $100 or $200 month recurring transfer.
After setting up your Recurring Transfer Schedules, return to the Account Settings page and select Auto Investing (or click here if you’re already logged in). Automatic investing will ensure that anytime you have at least $10 in your Groundfloor account, money can be put (back) to work quickly accruing interest in new loans.
How you configure the automatic investing is up to you, but we would recommend following these general guidelines:
- Avoid including E, F, and G grade loans in your automatic investing strategy.
- Set the Max Invested Per Loan to $10 for each loan letter grade you want to invest in, unless you are confident that you will have enough funds to purchase all available loans of that letter grade each month.
- Make sure it says “Automatic investing is running!” and everything looks correct before exiting the page.
Why Does This Strategy Help With Groundfloor Returns?
There are multiple ways to invest on Groundfloor. While there isn’t anything wrong with the other options, we feel this strategy is the best way to reduce the likelihood of making costly mistakes. Let’s go through the core principles behind the strategy in more detail below.
Diversification
Groundfloor periodically publishes a diversification analysis on their blog. This consistently shows that the fewer loans you invest in, the higher your risk of seeing loss or poor returns. Additionally, it gives a great sense of what to expect for a fully diversified portfolio of loans:
Our analysis shows that a model portfolio composed of a proportional investment made in all 2,807 LROs repaid to date would have earned an annualized net return of 9.96%.
December 2022 – Diversification Analysis
In other words, if you had blindly invested in every single loan offered on the platform, including all the duds, you’d still have gotten about a 10% annualized return. That’s about what the S&P 500 has historically returned.
So, what should we conclude from this?
- For all the problems that can and have happened with loans, it is still very possible to achieve a good return provided you have a diverse portfolio of loans.
- With a system that automatically diversifies available capital in as many different loans as possible, it is possible to achieve a ~10% return passively.
Taking Reasonable Risks
Each loan is given a letter grade, which attempts to quantify the risks associated with it. LROs that have higher risk grades will also offer higher potential yield. We emphasize the word potential because the loan actually has to get paid back successfully to achieve the target. If the loan ends in foreclosure, then the actual return may be less than the target, or it could be so low as to result in a loss of principal.
Last May, Groundfloor published an analysis of the performance of their loans across the different letter grades.
- The A, B, C, and D grade loans all performed relatively close to their expectations.
- A grade loans actually over performed
- B grade loans basically performed as expected
- C and D grade loans under performed
- Things are very different for E grade loans.
- They severely under performed with a 3.73% actual return versus an expected 16.87%.
- Additionally, these loans had a -14.62% loss ratio. That’s 21.5 times higher than D grade loans.
Collectively, the data clearly suggests that E grade loans have represented a significantly higher risk than the other LRO assets on Groundfloor while offering inferior returns. In other words, based on the data we have, E grade loans have been a bad investment.
There is no information available about F or G grade loans in the analysis. We have also never seen them on the platform ourselves, so we suspect that no F or G grade loans have been made available thus far.
Distributing Liquidity
As we mentioned before, the average LRO loan will repay in a bit less than a year. That means when we put money to work on Groundfloor, it could be quite some time before the principal becomes available to withdraw or reinvest.
One way to help mitigate this is to spread out investments over a period of time. Not only will it divide funds across a changing pool of loans every month, it staggers the “lockup” of investment capital. That gives you an opportunity to evaluate how you feel about the platform and the liquidity restrictions.
Example Account
Below we have an example from a real Groundfloor account. You can see the change in total invested principal each month (money transferred in from a bank account). It also shows the growing amount of repayments of both cumulative principal and interest over time.
A note/disclaimer that some of this can be tricky to calculate and translate into the graph. While we’ve done our best and made sure the high-level numbers add up, it is possible that it’s not a perfect representation.
A few things to note:
- Even though the average LRO repayment time is 10 months, we can see that we have some amount repaid in the second month.
- Since it was only a $10 loan and for such a short period of time, the interest generated was only $0.05 and is not easily visible in the graph.
- The repayments are not perfectly consistent, but after the first month, there is some amount repaid in each month.
- This is likely due, in part, to the size of the initial investment. A $1000 investment could be made into as many as 100 different loans and increase the odds of having something repaid in subsequent months.
- In general this shows that Groundfloor can provide periodic liquidity after ramping up the investment account. This would allow investors to pause reinvestment and start taking money out of the platform, bit by bit, each month as needed.
- A few notes of context about the returns.
- First, for this account about 70% of invested LROs have not generated a repayment yet.
- Second, for the ~30 of LROs that did have a repayment, the return was 9.6%.
- The overall returns continue to appear underwhelming as the majority of invested capital has not been repaid and thus the interest accrual has not been paid out.
- It is too complicated to try to model out and include the expected, unpaid accrued interest in this chart.
- However, we can at least note that the expected rate for the remaining loans is 10.5-11%.
- As you can imagine, if they perform near to expectations, we’ll see significantly higher total interest returned in the future.
Conclusion
It is possible to make passive income by investing in Groundfloor’s short-term, secured real estate debt offerings. However, it’s important to go into this with an understanding of what to expect and how things like diversification, loan quality, and patience impact your success.
If you’re interested in learning more about Groundfloor before jumping in, you can take a look at our guide to the investment platform. Also, if you’d like to give yourself a jumpstart on making money on the platform, you can register with this referral link to earn a $100 bonus after completing $1000 of qualifying investments on the platform.
As always, please remember that nothing included in this article is financial, investment, tax, or legal advice. It is for informational purposes only. All investments and investment strategies carry risk and loss of principal is a possible outcome. Please conduct your own due diligence and use your best judgment for whether the strategy in this article makes sense for you, your risk tolerance, and your individual circumstances.
