Is record debt levels such a bad thing?

The Financial Blogger recently questioned whether there is such a thing as good debt? Globe’s article says RECORD DEBT LEVELS might not be as big a problem given that Canadians wealth is higher according to a report by Scotia Bank Economist.

Here are my two cents: Debt is not a bad thing if used and managed correctly. For example, a mortgage to buy a house is financial leverage and the debt is used to buy an appreciating asset. However, too much debt to buy too much house where the debt leaves a person constrained from a cashflow basis can be a problem, even if the house continues to appreciate.

I’ve written extensively about good debt and bad debt but no matter how good the debt can be, too much debt is never a good thing. My concern with the article from the Globe is it can give people a false sense of security so I thought I would address a few key comments in the article:

Assets are increasing . . . but not always

“However, household net worth, or assets minus liabilities, is still close to a record high… because personal savings levels are increasing, house prices remain close to record highs and stock values have returned.”

More and more of the wealth of Canadians are held in non-guaranteed assets that fluctuate. The problem with this thinking is something is works and sometimes it doesn’t. Stock values have returned but we all know that it will drop again and possibly very sharply and significantly. We don’t know when it will happen. In other words, out net worth, yo-yo’s around with stock market volatility, real estate pricing and changes to the economy while our debt levels stay relatively fixed and continue to climb. How much of the increase in assets is due to something we can’t control like stock prices versus things we can control like savings rates?

Relative benchmarking

“Many households in Canada emerged from the recent global downturn less damaged than their G7 counterparts”

I love these statements. They are basically saying everyone sucks! We suck the least. We see this argument in the investment industry all the time….Everyone lost 30% but you only lost 20% so you did pretty good. Let’s start thinking in absolute terms when it comes to debt. Or if you are going to benchmark, benchmark against yourself and not others. Take your debt levels at a point in time and use that as a comparative base. Remember these golden rules of debt:

  • Regardless of everyone else, less debt is better than more debt.
  • Manageable debt is better than un-manageable debt
  • Reducing debt levels is better than increasing debt levels

And the most important rule for financial security:

The best debt is having NO DEBT at ALL.

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