News reports often talk about the National debt. What are they referring to? Is it the same as consumer debt? And what effect does it have on my investments?
According to the U.S. Treasury, the term national debt refers to the direct liabilities of the U.S. Government. Sometimes the national debt is referred to as public debt. Public debt is simply the public debt securities issued by the U.S. Treasury. These debt securities are commonly known as T-bills, notes and bonds. They also include savings bonds and special securities issued to state and local governments. A portion is debt held by the public and a portion is debt held by other government agencies.
As of December 2016, the total national debt is $19.8 trillion. Of this, $14.4 trillion is public debt and $5.4 trillion is debt held by other government agencies. (Source: TreasuryDirect.gov; “Debt to the Penny”) The $14.4 trillion public debt includes debt securities held by banks, financial institutions, insurance companies, mutual funds, and foreign countries. In other words, some of your bond holdings are represented in this $14.4 trillion.
Consumer debt is debt that is used to purchase goods that are consumed or that do not appreciate. Credit cards and car loans are considered consumer debt. When you and I want something that we do not have the cash for, we borrow this money in the form of consumer debt. The U.S. government does the same thing. The U.S. government receives the majority of its revenue from individual income taxes. When the government needs more revenue than they receive, instead of “charging” their credit card, they issue debt securities. The government is essentially borrowing money from individuals, institutions, mutual fund companies, foreign countries, etc. to cover their cash needs. In return, the U.S. government pays an interest rate to their lender(s).
The question remains. How does debt affect my investments? Consumer debt hinders the potential growth of investments. If you consider that credit card interest rates can be as high as 24%, there is a huge opportunity cost. Money that is used to pay down a credit card is now unavailable to invest. At double-digit interest rates, it becomes very difficult to stay on top of or eliminate credit card debt. On the other hand, 10-year U.S. Treasury notes have interest rates near 2.5%. It costs the government much less to service their debt than it does consumers.
National debt in and of itself will not have a big impact on your investments. The factor that will affect your portfolio is the interest rate tied to the national debt. We’ve experienced extremely low-interest rates on the US issued debt securities for a handful of years. If the interest rate begins to increase, there will be implications for your portfolio:
1. The value of your existing bonds will decrease
2. Your standard of living may decrease as interest rates for mortgages and other consumer debt products will increase
3. There may be a shift from investing in equities to investing more in fixed income with higher rates
4. A decrease in investing in equities could reduce the size of the private sector as publicly traded companies are losing investment dollars
5. As the US economy continues forward, the national debt should be understood but not feared. When used properly, the national debt can help build, grow and sustain a strong and prosperous country.
Securities and Advisory services offered through The Strategic Financial Alliance, Inc. (SFA), member FINRA, SIPC.
This information is based on sources believed to be reliable; however, their accuracy or completeness cannot be guaranteed. There is no guarantee that any opinion or suggested possibility will happen.