On today’s show we are talking about global debt and the multiple exit strategies from that debt.
Every stream of cash flow must have an exit strategy. When you go to the grocery store and put your groceries on your credit card, the institution who issued the card is lending you money. By the way, I don’t recommend you do this. The path to repaying that loan for most people is their employment income. If you’re being responsible with managing your debt, and have planned it out carefully, then you have a viable exit path of retiring that debt. Even though your groceries are going to cost you a bit more than they should, you can still buy your groceries.
All debt is a claim on future income flows.
The critical decision is to ensure you have debt that will self-liquidate. You have to be able to point to that consistent income stream that will take care of the debt without un-natural interventions and refinance activities. If you don’t have a dedicated income stream to repay the loan, then you’re taking from another income stream to service the debt.
As we go into an economic cycle where liquidity is going to reduce, debt is going to become more difficult to secure. This is because the quality of the collateral is going be become more and more suspect.
The exit from a loan can happen in one of five different ways.
- The loan gets paid down to zero and is fully liquidated
- The asset providing the loan collateral is sold and the loan gets paid off.
- The loan gets refinanced into a new loan, often for a larger amount.
- The loan gets modified and then liquidated or refinanced. A loan modification is different from a refinance in that it usually involves a partial write down or softening of the loan terms.
- The loan defaults and gets written off as a bad debt.
Host: Victor Menasce