Archive for August, 2009

Lifting too much weight (The Financial Athlete #52, rewrite)

August 6, 2009

A builder visits the Nordic gods. He promises, “I will build an impenetrable fortress. No mountain giants or frost giants could force their way in. For payment, I require the beautiful goddess Freyia as my wife, and the sun, and the moon.”

The gods laugh at how much he requires. Rather than deny the offer, they make it very difficult for the builder to gain his outrageous fee. The gods reply, ” We accept, on condition you complete the work within one winter without the help of man.”

The builder nods his head. “I agree, if you allow my stallion to help.”

The gods hesitate, but the god Loki urges them to grant this wish. An agreement is sealed with solemn oaths.

During the nights the stallion hauls stones, and during the days the builder constructs the fortress. Near the end of winter, it seems the work will be completed on time.

The gods say to Loki, “We are stupid to listen to your advise to enter this deal. We will lose not only Freyia, but also the sun and the moon. Fire will be our only source of light. You are crafty god. Find a way to stop the builder from completing his work on schedule!”

Loki transforms himself into a mare. In the early evening the mare lures the stallion into the forest, where they spend the entire night. The next morning the builder is infuriated, realizing he cannot do any work. In his rage, the gods realize he is really a mountain man disguised as a man. The gods summon Thor to kill him. Thor cracks open the skull of the mountain man with his hammer.

This story comes from Snorri Sturluson’s (1179-241) prose called Edda. Its lesson is if want too much, too soon, we are bound to get hammered. Those with too much leverage (debt) get hammered when the overpowering market forces turn against them. This begs the question: how much debt is appropriate? This can be learned by observing progressive weight training. Think of debt as a form of weight.

Who walks into a weight room to lift three times his body weight without ever having weight lifted in his life? Even the inexperienced are aware of the danger of lifting too much weight. Unlike heavy weight measured in kilos, the gravitational pull of the weight of debt is not as feared. This kind of weight won’t hurt your back or cause sore muscles for the rest of the day. There are no immediate repercussions with debt. This may be one reason many don’t hesitate to try to lift three times the weight of debt they can bear.

Piling up debt to consume goods and services or speculate on investments with an insurmountable amount is a sure sign of addiction to debt. Every addiction gives a certain high. The high for an addiction to debt is living a richer lifestyle or feeling like you will once your “investment” pays off. But all addictions debilitate. Too much debt eventually leads to a lower standard of living, not higher. While I don’t practice a policy of zero debt, it may be a good idea for someone addicted to debt.

For the rest of us, how should debt be managed? Take a cue from weightlifting, which teaches us to build strength before lifting heavier weight. A weightlifter works out on the same muscles 3-4 times a week and increases weight incrementally over time. So the point is not minimize debt but to only take on a level of debt your income can sustain. The greater your income, the more debt can be leveraged to further increase your income. Recall the question: “Which is the cart and which is the horse?” In this case, income always should be the horse, and debt the cart. A costly mistake is thinking vice versa.

This principle applies not only to personal finance but also to investments. If a company or real estate property has too heavy a debt burden relative to its cash flow, take a pass on that investment opportunity.