Free-quent Flyer
Blogger
I've written previously on my blog about using 0% introductory APR offers as negative interest rate loans in order to generate risk-free above-market-rate returns (see, for example: http://freequentflyerbook.com/blog/2014/8/30/the-best-way-to-use-the-newest-2-cash-back-card).
However, there's no reason this technique should be restricted to the relatively long-term 15-month or 18-month introductory APR's offered by credit card companies. In fact, manufactured spend gives us access to negative-interest-rate loans on an ongoing basis, and I want to lay out the case for taking advantage of those conditions to finance even illiquid investments.
What’s a negative-interest-rate loan?
When you manufacture spend on a credit card that offers a higher return in the form of rewards than the total cost of your manufactured spend, you’re taking out a negative-interest-rate loan: once you’ve liquidated back to cash, you’re free to do whatever you want with the money until the payment due date on your next statement. If you manufacture spend on the first day of your statement cycle, that loan might last for as long as 45-55 days.
So $499.30 manufactured on a Barclaycard Arrival+ card at a total liquidated cost of $4.65, and earning $10.61 in rewards, requires you to pay back just $494.04 on the payment due date shown on your next statement — and gives you free use of the cash until that date. Annualized, you’ll earn $71.50 on roughly $1000 in borrowed funds.
To see why, take the example of an Arrival+ card with a January 1 statement closing date. You’ll borrow $499.30 in liquidated cash on January 2, payable 25 days after your February 1 statement closes. On February 2, you’ll borrow another $499.30, payable 25 days after your March 1 statement closes. In this stylized example, you’ll always have 2 overlapping $499.30 loans outstanding for 55 days at a time, and each year earn a total of $71.50 on 12 $499.30 loans.
Inflation
One interesting observation here is that since you pay off the loans in nominal dollars, but are repaying the loans with dollars 55 days in the future, you’re paying back the loans with dollars that are worth less than they are on the day you borrow them, due to inflation (albeit today’s super-low inflation makes this more academic than meaningful).
Risk-free investing
One thing you could do with this negative-interest-rate loan is save it in high-yield, insured savings accounts.
This is an excellent idea! Earning 5% APY on up to $5,000 in a Northpointe checking account, or 4.59% APY on up to $20,000 in a Consumers CU account, or other above-market interest rates in other accounts people have written about all over the Forum, will allow you to turn your slightly-negative-interest-rate loan into a very-negative-interest-rate loan.
The biggest advantage to this approach is that your savings are liquid, so this is a case of what I like to call inverse banking. Instead of borrowing short (taking demand deposits) and lending long (car loans, mortgages, etc.), you’re borrowing short (taking out a loan for the period between the purchase date and payment due date), and lending even shorter (depositing the funds in a high-interest account until they’re needed to repay the original loan).
Risk-full investing
So far, there’s nothing new here: I’ve long advocated replacing bonds in an investment portfolio with FDIC- or FCUA-insured high-interest accounts, with their guaranteed returns and superior liquidity.
What I’ve been thinking about lately is how to integrate this into an even riskier portfolio.
Here are a few ways you could go about doing this, from risky to riskiest:
Risky: front-loading retirement savings
If, each calendar year, the amount you’re allowed to contribute to qualified retirement accounts is capped, you may typically have a fraction of that amount deducted from each paycheck. If that’s the case, then instead of dribbling money in throughout the year, you could alternatively make an upfront contribution with the funds from a negative-interest-rate loan, and then “pay yourself back” throughout the year with the funds you would have contributed to your qualified retirement account. That gives your funds more time in the market each year, which may be a good thing or a bad thing depending on what the market does that year!
But in any case, by the end of the year you’ll have paid yourself back with the funds you would have contributed anyway.
Riskier: Margin lending to yourself
Alternatively, if you want to invest in securities you think will offer a good long-term return on investment, you can borrow up to half your total available credit each month. For example, if you have a $10,000 credit limit on an Arrival+ card you could manufacture $5000 each month. The first month’s liquidated funds would be used to buy whichever stocks, bonds, or funds interest you, and each subsequent month’s funds would be used to repay the original loan.
There are two reasons why this is a far riskier proposition than the one above: your investments might not generate positive returns, and you may not be able to turn over the loans.
If your investments generate negative returns, you won’t be able to liquidate them to pay off the original loan, since they’ll be worth less than the amount originally borrowed.
On the other hand, if your manufactured spend avenues dry up, you may not be able to manufacture the spend necessary to pay off your revolving credit card balance each month, and even a successful investment may not cover the usurious interest rates charged by credit card companies.
Riskiest: Long-term, illiquid investments
Naturally, I find this final option by far the most interesting. There are three main kinds of illiquid, long-term investments people in the United States can make: education, housing, and businesses.
In principle, avenues exist to fund all three kinds of investments with debt. Students can receive either federally-backed or private student loans to pay for education, banks and credit unions offer mortgages for housing, and under some circumstances it’s possible to borrow money to start a business.
Conclusion
Many people think about manufactured spend in terms of the return on their investment of time. I politely decline to think about it that way, since in my view purely financial transactions are different from other exchanges of time for money. In other words, manufactured spend and the benefits thereof are much closer to financial engineering than they are to paid labor.
If, like me, you think of manufactured spend as access to short-term negative-interest-rate loans, you may want to consider what that fact means for your overall investment portfolio.
However, there's no reason this technique should be restricted to the relatively long-term 15-month or 18-month introductory APR's offered by credit card companies. In fact, manufactured spend gives us access to negative-interest-rate loans on an ongoing basis, and I want to lay out the case for taking advantage of those conditions to finance even illiquid investments.
What’s a negative-interest-rate loan?
When you manufacture spend on a credit card that offers a higher return in the form of rewards than the total cost of your manufactured spend, you’re taking out a negative-interest-rate loan: once you’ve liquidated back to cash, you’re free to do whatever you want with the money until the payment due date on your next statement. If you manufacture spend on the first day of your statement cycle, that loan might last for as long as 45-55 days.
So $499.30 manufactured on a Barclaycard Arrival+ card at a total liquidated cost of $4.65, and earning $10.61 in rewards, requires you to pay back just $494.04 on the payment due date shown on your next statement — and gives you free use of the cash until that date. Annualized, you’ll earn $71.50 on roughly $1000 in borrowed funds.
To see why, take the example of an Arrival+ card with a January 1 statement closing date. You’ll borrow $499.30 in liquidated cash on January 2, payable 25 days after your February 1 statement closes. On February 2, you’ll borrow another $499.30, payable 25 days after your March 1 statement closes. In this stylized example, you’ll always have 2 overlapping $499.30 loans outstanding for 55 days at a time, and each year earn a total of $71.50 on 12 $499.30 loans.
Inflation
One interesting observation here is that since you pay off the loans in nominal dollars, but are repaying the loans with dollars 55 days in the future, you’re paying back the loans with dollars that are worth less than they are on the day you borrow them, due to inflation (albeit today’s super-low inflation makes this more academic than meaningful).
Risk-free investing
One thing you could do with this negative-interest-rate loan is save it in high-yield, insured savings accounts.
This is an excellent idea! Earning 5% APY on up to $5,000 in a Northpointe checking account, or 4.59% APY on up to $20,000 in a Consumers CU account, or other above-market interest rates in other accounts people have written about all over the Forum, will allow you to turn your slightly-negative-interest-rate loan into a very-negative-interest-rate loan.
The biggest advantage to this approach is that your savings are liquid, so this is a case of what I like to call inverse banking. Instead of borrowing short (taking demand deposits) and lending long (car loans, mortgages, etc.), you’re borrowing short (taking out a loan for the period between the purchase date and payment due date), and lending even shorter (depositing the funds in a high-interest account until they’re needed to repay the original loan).
Risk-full investing
So far, there’s nothing new here: I’ve long advocated replacing bonds in an investment portfolio with FDIC- or FCUA-insured high-interest accounts, with their guaranteed returns and superior liquidity.
What I’ve been thinking about lately is how to integrate this into an even riskier portfolio.
Here are a few ways you could go about doing this, from risky to riskiest:
Risky: front-loading retirement savings
If, each calendar year, the amount you’re allowed to contribute to qualified retirement accounts is capped, you may typically have a fraction of that amount deducted from each paycheck. If that’s the case, then instead of dribbling money in throughout the year, you could alternatively make an upfront contribution with the funds from a negative-interest-rate loan, and then “pay yourself back” throughout the year with the funds you would have contributed to your qualified retirement account. That gives your funds more time in the market each year, which may be a good thing or a bad thing depending on what the market does that year!
But in any case, by the end of the year you’ll have paid yourself back with the funds you would have contributed anyway.
Riskier: Margin lending to yourself
Alternatively, if you want to invest in securities you think will offer a good long-term return on investment, you can borrow up to half your total available credit each month. For example, if you have a $10,000 credit limit on an Arrival+ card you could manufacture $5000 each month. The first month’s liquidated funds would be used to buy whichever stocks, bonds, or funds interest you, and each subsequent month’s funds would be used to repay the original loan.
There are two reasons why this is a far riskier proposition than the one above: your investments might not generate positive returns, and you may not be able to turn over the loans.
If your investments generate negative returns, you won’t be able to liquidate them to pay off the original loan, since they’ll be worth less than the amount originally borrowed.
On the other hand, if your manufactured spend avenues dry up, you may not be able to manufacture the spend necessary to pay off your revolving credit card balance each month, and even a successful investment may not cover the usurious interest rates charged by credit card companies.
Riskiest: Long-term, illiquid investments
Naturally, I find this final option by far the most interesting. There are three main kinds of illiquid, long-term investments people in the United States can make: education, housing, and businesses.
In principle, avenues exist to fund all three kinds of investments with debt. Students can receive either federally-backed or private student loans to pay for education, banks and credit unions offer mortgages for housing, and under some circumstances it’s possible to borrow money to start a business.
- Student loans, famously, can’t be discharged in bankruptcy; credit card debt can.
- A defaulted mortgage will cost you your house; under most circumstances defaulting on credit card debt won’t cost you your primary residence.
- Business financing is hard to get; manufacturing spend is easy.
Conclusion
Many people think about manufactured spend in terms of the return on their investment of time. I politely decline to think about it that way, since in my view purely financial transactions are different from other exchanges of time for money. In other words, manufactured spend and the benefits thereof are much closer to financial engineering than they are to paid labor.
If, like me, you think of manufactured spend as access to short-term negative-interest-rate loans, you may want to consider what that fact means for your overall investment portfolio.