Up to the eyeballs

DOUG  By Guest Blogger Doug Rowat

Personal debt must certainly be the most popular topic of online financial-advice articles.

Googling ‘financial planning’ will produce about as many articles related to debt management as Googling ‘reality TV’ will list members of the Kardashian family.

In other words, personal debt is an overexposed topic in the financial-advice universe.

So overexposed, in fact, that I bet you can already predict the images that accompany these articles: perfect lighting, laptops displaying pie charts, calculators, cups of coffee, maybe suited-up advisors helpfully pointing at something? If only personal debt problems were actually so neat and tidy.

And God as my witness, I wrote the above before my first ‘financial planning’ Google search produced this pic (admittedly, no calculator):

Financial planning articles can be as clichéd as the pics that go with them

Source: Google Images

Unfortunately, we’re also too familiar with the hackneyed debt advice that’s offered by these write-ups: pay off your most expensive debt first, consolidate debt, create a household budget, spend less than you earn, and so on.

However, I want to present the subject of debt in a different way, not by providing another self-evident step-by-step guide to managing it—do your own Google searches for that—but rather by highlighting a few behavioural and attitudinal changes that we can make to better understand and deal with it:

  • View debt objectively through the lens of both the lender and the borrower. For example, one unfair perspective is that lenders are ruthless. Another equally inaccurate viewpoint is that borrowers are deadbeats and should be forced to pay debt at any cost. Naturally, there need to be consequences for failing to pay debt, but be cautious before deciding how severe those consequences should be. If a lender is ALWAYS assured of getting paid back regardless of what it may cost the borrower, then not only will many borrowers be ruined, but the lender, freed of consequences, will become more reckless with their lending. This is how debt crises are born. Similarly, if there are few consequences to the borrower for defaulting on a loan then credit would cease to flow due to an overabundance of caution from lenders. Unsympathetic representations of bankers and lenders are always popular (I’m an English major, so Ebenezer Scrooge and Shylock immediately come to mind). Similarly, depicting borrowers as lazy freeloaders is equally popular, especially today given the amount of CERB money floating around. But in our Covid-19 world, a greater awareness of both the lender’s and borrower’s perspectives is critical to finding a middle ground regarding debt repayment. Consider, for example, which side you favour at the moment between renters and landlords (not dissimilar to a lender-borrower relationship). Is forcing rent payments reasonable? Is a further ban on evictions reasonable?
  • Be brutally transparent about the cost of your debt. I’m not speaking here of the costs related to more obvious debt burdens—we all know credit cards, for example, have painfully high interest rates. I’m speaking instead of the more subtle ways that we casually ignore debt expense. For example, it’s enjoyable to focus on the appreciation of a house or condo, but few diminish this enjoyable experience by considering the long-term mortgage costs (not to mention the myriad of other costs associated with real estate ownership). A homeowner might, for example, ponder how nice it is that their house has appreciated from $750,000 to, say, $1.25 million over 10 years. What’s far less common is for the same homeowner to subtract the interest. For the record, a 4% interest rate on a $600,000 mortgage over 10 years would’ve shaved this $500,000 ‘profit’ by about $206,000. So, avoid self-delusion: always be forthright regarding the full cost of your debt.
  • Similar to the point above, strive for self-awareness. It does little good for a financial-advice column, for example, to make the obvious recommendation that an individual pay down their expensive credit card debt first, if that individual hasn’t first personally addressed why it is that they’ve allowed their credit card debt to get so high to begin with. Dealing with debt problems should always start with a consideration of one’s character flaws. Many people suffer from present bias, for example. Present bias occurs when an individual places more value on something they want now versus what it might cost them down the road. Present-biased individuals tend to be impatient and, in a more practical sense, usually make expensive purchases in between pay periods rather than waiting for pay day itself. They also struggle with time-consistent behaviour. You can test such tendencies in simple ways. For example, would you prefer $1,000 now or $1,005 in a week? An impatient person might take the $1,000 now even though the annualized rate of return for waiting a week is actually exceptional. You can also reveal problems with time consistency by reframing the question: would you prefer $1,000 in 52 weeks or $1,005 in 53 weeks. A time-consistent individual would take the same dollar amount in both scenarios. A differing answer to each scenario is actually illogical. Having awareness of one’s illogical or impulsive behaviours is THE critical first step in addressing debt problems. Stanford University researcher Theresa Kuchler highlights as much:

We found that [credit card] users who exhibited a stronger present bias reduced their debt less than users with a less strong bias. Moreover, users who appeared to be aware of their own behaviour managed to stick with their original [debt reduction] plans much better than those who appeared to repeatedly tell themselves they would save more for debt paydown in the future.

So, when considering debt: 1) be open minded to the perspectives of both lenders and borrowers—this helps control resentment and bias towards either side; 2) always make it habit to factor in the cost of your debt—this immediately brings awareness to how debt corrodes wealth accumulation and 3) before following simplistic advice (pay off your credit card debt first, etc.) gain the self-awareness to recognize how your own bad behaviour is contributing to your debt problem—and this, actually, is probably the best first step to solving any problem.

Once you’ve done all of the above, then—and only then—can you start searching for debt-management articles featuring pictures like the one above.

The more laptops, pie charts and cups of coffee the better.


Finally, I can’t tell you exactly how long the current US recession will last, and it’s certainly discouraging that the country’s still well entrenched in a Covid-19 second wave with the cold winter months still to come. However, keep perspective. Equity markets have strong momentum, government and central bank stimulus is almost certain to continue and the prospect of an approved vaccine always lies on the horizon. And history has clearly shown that recessions are brief and economic expansions long. It seems impossible to believe some days, but the current recession will end and the economic expansion that comes after, will in all likelihood, last far, far longer:

Length of US economic expansions and recessions

Source: JP Morgan Asset Management. (*data does not include current 2020 recession)
Doug Rowat, FCSI® is Portfolio Manager with Turner Investments and Senior Vice President, Private Client Group, Raymond James Ltd.