Controversial Advice

What I am about to share with you is very controversial. Many will argue it is risky, foolish and unwise. People despise debt, and frankly so do I. Look at the mess we are in as a country as a result of over-borrowing and extreme leverage because we are so focused on consuming wealth instead of creating it. But I have to point out what I see as an incredible wealth-creation opportunity that exists right now.

First look at Microsoft, they have been one of the most successful business stories of all time. They have operated free of debt for years, and, in fact, they have huge cash reserves (20 billion plus). Recently, though, Microsoft issued 3.75 billion in bonds/debt. Why in the world would a cash-rich company get into debt right now? Especially, since I read in the Wall Street Journal that Microsoft does not have any immediate plans for this cash they are borrowing.

Well here is my opinion. They are borrowing to create rather than consume. They are borrowing now while the interest rates are low and are banking on the interest rates rising sometime in the future based on historical interest rate fluctuations.

If we look back historically, the federal reserve slashes the federal funds rate when the economy falls into trouble. But more specifically in 1974, after a doozy of a market crash, the federal reserve dropped the federal funds rate from 12% to less than 6% by 1976. What's crazy is what happened by 1981 when the federal funds rate jumped to more than 18%. Lets say back in 1976 a company like Microsoft borrowed billions of dollars at 6% and then in 1981 they were earning 18% on that same money. That's just crazy. Wouldn't you like to be on that side of the borrowing/arbitrage -- risk-free profit equation.

With interest rates at all time lows, there are a lot of factors at play, such as foreign countries not wanting to buy our treasuries because interest rates aren't very attractive, or that we have been printing money like mad in the last 12 months. But the bottom line is, in my opinion and many others, that at some point in the future, we are likely to go through a period of hyper-inflation and much higher interest rates. Why does this matter and how does it relate to Microsoft, and more importantly how can you benefit from the same type of thinking.

Lets look at Microsoft again. They just issued some 30 year notes at 5.25%. Lets say 3 or 4 years from now this scenario of hyper-inflation and high interest rates takes hold and interest rates jump to say 9%. Well Microsoft was smart enough to borrow at 5.25%, and now they can earn 9% on that money. That's a nice little arbitrage. The rich getting richer, and it all has to do with timing. Most people buy stocks at the wrong time and sell at the wrong time. Most people borrow to consume when they should be borrowing to create. This really is the chance of a life time on the borrowing side of the equation. You should be buying stocks when everyone is running scared, and borrowing money when consumer debt is perceived as evil.

That's what Microsoft is doing, borrowing to create. They are betting on one of two things: One, either the rate of return they can earn on the money will be greater than the rate at which they borrow; or two, they believe they can put the money to work in their company to earn a greater return. Ultimately, the opportunity to borrow money on the cheap has never been so great. Now, how can you benefit from this.

If you are someone one who has $1 in their pocket and is inclined to spend $2, then this is not the right plan for you. If you currently carry a lot of debt and can't afford an extra 6 or 7 hundred dollar a month payment, then this is not for you. Essentially, this plan is for people who, like Microsoft, have been very prudent and conservative in their finances.

This is a good plan for you if you own a home and your home is paid off or you have $100,000 in equity and you can borrow against your home at 5% on a 30 year mortgage fixed rate. Do you see a similarity to what Microsoft just did. As an individual you don't have the ability to issue bonds but you do have the opportunity to borrow. And right now borrowing against a home has never been more attractive.

You are borrowing at 5%, and if my scenario plays out in a few short years, you are going to be able to earn a rate of return much higher than 5%. And I'm not talking about investing in the stock market. I'm talking abut using safe and secure CDs.

But what happens if you borrow at 5% today and can only earn 5%, is there really any point? Well if you borrowed using a simple interest loan and put that money into a savings account that is earning a 5% compound interest, then you're actually making more money than if you had never borrowed any. "The most powerful force in the universe is compound interest," to quote Mr. Einstein.

Plus, if you can borrow at 5% now and in a year or two could earn 7, 8 or 9% wouldn't you look like a genius. This little exercise in wealth creation or creating your own arbitrage is how banks make money. Banks pay interest on deposits at say 2.5% and turn around and lend the money at 5%. In many ways what I am suggesting is safer than what banks do because banks take a risk on the borrowers ability to repay the loan. You on the other hand don't have that risk. In my opinion, this is how Microsoft is on the verge of creating huge amounts of additional wealth in the not so distant future.

Worst case scenario: I'm wrong. In a couple of years, interest rates continue to stay at zero and we are in a spiraling deflation. But who cares. You still have the $100,000, and if you can't continue to find a deposit rate of 5% or higher, then you can pay off the debt and be done with it.

Another possible benefit: the mortgage interest on your borrowed money may be tax deductible to you, which would create a bigger arbitrage on your behalf. On the downside, there will be costs to borrow the money so you have to take those into consideration as well.

But ultimately, I believe this puts the borrower in a greater place of safety. They have more liquidity, which we all know, especially in the current environment where cash is king, is very comforting. In a rising interest rate environment, you will have borrowed cheaply and then safely earned a greater rate of return.

Remember this "He who has the gold....makes the rules"

Jason Parker is the President of Parker Financial LLC, a fee based registered investment advisory firm specializing in wealth management for retirees. His office is located at 9057 Washington Ave NW #104 in old town Silverdale, WA 98383. He holds the series 65 securities license as well as being licensed to offer life and health insurance in Washington State. For more information please contact Jason at 360-337-2701 or online athttp://www.parker-financial.net/. The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. The opinions and information presented do not constitute a solicitation for the purchase or sale of any securities or insurance products. All information is believed to be from reliable sources; however, we make no representation as to its completeness or accuracy. The publisher is not engaged in rendering legal, accounting, mortgage or other professional services. If other expert assistance is needed, the reader is advised to engage the services of a competent professional. Please consult your Financial Advisor for further information.