To Borrow or Not to Borrow

By: John Rubino | Sun, Dec 20, 2009
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I just got off the phone with a friend who's buying some commercial real estate but isn't sure how to pay for it. Should he use cash and own it outright, with no worries about making payments? Or should he finance it and pay off the loan with ever-cheaper dollars -- in effect going long the property and short the dollar on the same deal? As we tossed around the pros and cons of debt in a world where paper money is being inflated away, it occurred to me that a lot of other people -- including many homeowners -- are probably asking themselves similar questions. So here's some material that might help:

The first piece is from a Doug Casey interview in which the venerable money manager goes on at length about the coming real estate bust, tossing off predictions of 90% declines and dissing the idea of housing as an investment. Then he says this:

Now, that doesn't mean that if I wanted a house, I wouldn't buy it now. You can get a fixed-rate mortgage now with an artificially low interest rate on houses below the jumbo level (I think it's about $550,000). Given where interest rates and the value of the dollars you borrow are going, that's going to be a gift in the future.

L: But that's not a speculation. You're saying that if I wanted to buy a house I like, to live in, the near term might be a good time to buy.

Doug: Yes, that would make sense, if only because that fixed-rate mortgage could be practically wiped out by the inflation to come. You're looking at what could be a very large gift. Too bad for the entity that lends you the money, but that's what they get for playing this government-rigged game.

The next piece is from The Collapse of the Dollar and How to Profit From It, in which GoldMoney's James Turk and I explore the strategy of borrowing dollars in the hope of repaying the loan with worthless pieces of confetti.

Debt: To leverage or not, that is the question. One seemingly logical strategy for profiting from a dollar collapse is to borrow as many dollars as possible, in the expectation of paying back the loans in ever-cheaper currency. A good plan in theory, perhaps, but we wouldn't advise anyone to borrow money at this point in global financial history. The fact is, leverage is beneficial only if you're absolutely, positively sure you'll be able to make the payments. If you can't then you have problems, regardless of how right you are about trends in the foreign exchange markets. So think through your obligations and cash flow. Holding a lot of dollar cash to cover your debts is not a solution, since your cash will fall in value along with your debt. Meanwhile, unless you're a bill collector or gold miner, your job won't seen nearly as safe when the crisis is in full swing.

If you do decide to carry a fair amount of debt through the dollar crisis, make it the right kind of debt, which is fixed-rate. Under no circumstances should you load up on adjustable rate debt, whether credit card, mortgage, or business loans. Rates will soar when the dollar plunges, and if your financial life depends on covering a prime -plus-one loan, you'll be very unhappy when the prime rate hits 20 percent. A fixed-rate mortgage, on the other hand, is a reasonable way to borrow, since it has all the things you want in a currency crisis. It's very long-term, maybe the longest term that's possible in today's market. It's adjustable on the downside if rates fall (through refinancing), but not on the upside of rates rise. So how should you handle your mortgage? Depending on your circumstances, consider one of the following:

Secure your shelter. You need a roof over your head even more than you need wealth. So stop thinking of your home as an investment and start thinking of it as an essential part of your family's security. To guarantee that you come through the dollar crisis with a home to call your own, liquidate some investments and pay off your mortgage. If the dollar collapses, your home's value (assuming you haven't just bought an expensive place in a wildly overvalued neighborhood) will rise in dollar terms. And even if real estate prices collapse, you'll still have the shelter your house provides without the worry of a mortgage.

Leverage your home to make money. Instead of paying off your mortgage, keep it and use your free cash to buy gold and gold-based investments as explained elsewhere in this section. In effect, you'll be borrowing against (or leveraging) your house in order to invest, with the expectation that gold will soar in dollar terms, while the real cost of your mortgage plunges. This bet paid off handsomely in the 1970s, and should again in the coming decade. But it only makes sense, and we can't make this point strongly enough, if you are certain to be able to make your mortgage payments. Otherwise, it's not worth the risk.



John Rubino

Author: John Rubino

John Rubino

John Rubino

John Rubino edits and has authored or co-authored five books, including The Money Bubble: What To Do Before It Pops, Clean Money: Picking Winners in the Green Tech Boom, The Collapse of the Dollar and How to Profit From It, and How to Profit from the Coming Real Estate Bust. After earning a Finance MBA from New York University, he spent the 1980s on Wall Street, as a currency trader, equity analyst and junk bond analyst. During the 1990s he was a featured columnist with and a frequent contributor to Individual Investor, Online Investor, and Consumers Digest, among many other publications. He now writes for CFA Magazine.

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