Investing and Borrowing

I often meet with organizations and people seeking investment counseling. One of the first steps in personal “investment” counseling is to encourage the contribution of the maximum amount allowed under law to tax-advantaged retirement accounts. If one is already deferring income and reducing taxes, and still has excess reserves, I always recommend paying off DEBTS first.

The only exception to this rule would be mortgage debt, which is usually tax-deductible and carrying a very low interest burden. The logic of this approach is pretty simple. If you already have debt outstanding, essentially you are making interest payments on the “investment” made by someone else. To make personal after-tax investments while still carrying debt burdens owed to others is essentially to have a “margin” account. Margin accounts are widely considered to be ultra-speculative by financial planners. Borrowing someone else’s money to “invest” for yourself implies you are sure you can earn a higher rate of return than the entity that loaned the money to you. In most instances, if you are a borrower, you are pretty much by definition short of investment funds. Aggressive opportunists with big plans often like to use other people's money. However, it is my experience, that aggressive opportunists with big plans, that constantly require other people’s money (OPM), usually implode at some point. Constantly operating on borrowed money is almost always a recipe for financial disaster. Accordingly, I found it financially comical that our president was calling for America to do more "borrowing" for the purpose of “investing” earlier this week in his State of the Union address.

Bernie Madoff

Perhaps I am simplistic. But in the real world, "borrowing" is not investing. Borrowing is using the investment capital of others as a form of financing. There seems to be a great sleight of hand going on here. The “focus group-tested” use of the term “investing” is merely a semantic substitute for the increasingly less popular term, “borrowing.” While it might help conjure up some great vision of a bright future, seasoned investors realize that borrowing even if under a different name, is merely the continuation of the national margin account. America’s government has not been “investing,” America’s government has been on "margin." America is still on margin. Once America is off margin it can think about "investing." You can learn more about margin accounts here:

Investing and Borrowing