Sorry, Shakespeare

Editor's note: For generations, investors have been warned to avoid borrowing and lending. That advice has survived because it sounds smart – not because it's right. According to Dr. David "Doc" Eifrig, lending can be a powerful wealth-building tool. In this issue, adapted from Doc's Health & Wealth Bulletin, he explains how smart investors can earn income most people overlook as fear creeps into the credit market...

Don't listen to William Shakespeare...

In his play Hamlet, he famously wrote, "Neither a borrower nor a lender be."

For more than 400 years, people have quoted this line by the character Polonius as an argument for keeping your finances simple.

But he's the last person to take advice from. He's an adviser to the story's villain... and essentially gets every judgment wrong in his own life. Hamlet himself calls Polonius a "tedious old fool."

Like most proverbs or adages, Polonius' advice is just plain trash.

We remember old sayings like this because they're catchy or witty. They sound wise. But they don't always hold up to scrutiny...

As longtime readers know, I love nothing more than challenging accepted wisdom.

Consider this one: "What doesn't kill you makes you stronger."

Absolutely not. We get that this is a plea for optimism in the face of adversity. But physical maiming or psychological trauma can certainly weaken you.

Or my least favorites: "Curiosity killed the cat" and "ignorance is bliss."

Bah... Curiosity and the pursuit of knowledge are two things I model my intellectual life around. More than that, they represent the most valuable virtues of human character. Without them, the world would be worse off.

That's the danger of these sticky sayings...

Contrary to Polonius' advice, careful borrowing can be a superpower in the modern financial world. And even more, lending is one of the best ways to build wealth.

Why Lending Belongs in Your Portfolio

Throughout my career, I've stressed the importance of having some of your portfolio in fixed income.

These are securities designed to pay a regular stream of income over a fixed period of time. At the end, you also get back most or all of your initial investment (called principal), depending on what price you paid up front.

Safe fixed-income securities help stabilize a portfolio. For people with enough capital, putting extra cash in fixed income is a great way to generate more income than parking it in a checking account.

Bonds are one type of fixed-income security...

Depending on your age and tolerance for risk, they sit somewhere between boring and a godsend. Personally, the promise of predictable interest payments and a clear return of capital lets me sleep well at night.

But over the past few years, bonds fell out of favor as interest rates rose to combat inflation. You see, bonds have an inverse relationship with interest rates. When rates rise, bond prices fall, and vice versa.

Now that interest rates have started to come down, you should consider adding some exposure to bonds if you don't have any.

And if you want to earn higher returns on bonds, you should consider distressed corporate debt.

The Opportunity Forming in Distressed Bonds

To help explain the opportunity, let's back up a little and talk about what a bond really is...

If a company's balance sheet collapses, its stock usually collapses with it. And any dividend it pays disappears. Shareholders have no guarantees when this happens.

But bondholders have much more safety – because they have a legal right to be paid by a company. So if a company runs into trouble and still has bills to pay, bondholders stand at the head of the collection line.

Even in a bankruptcy liquidation, the remaining proceeds go to secured creditors and bondholders. Shareholders get squat.

On top of all that, the capital-gain potential of bonds is widely underrated...

If you purchase corporate bonds at a discount and hold them to maturity, you receive the full face value of the bond when the principal is paid off. That can be an incredible yet overlooked built-in capital gain... regardless of what the market or an individual company's stock has done.

As long as the company doesn't go bankrupt, bondholders get paid in full. It's that black-and-white.

When the credit cycle rolls over – which could happen very soon – tremendous deals will become available. In particular, you'll be able to buy "distressed debt" in the form of bonds.

While some distressed bonds aren't safe, others are. It all depends on whether a company can afford the annual interest costs on all of its debt... and whether it will have enough cash on hand to pay off the bond at maturity.

When a company can do that, safe distressed corporate debt can make investors a fortune.

That's why Polonius' advice is nonsense. Avoiding borrowing and lending might sound prudent. But in today's market, it often means leaving money on the table.

The smartest investors don't avoid lending. They use it. And when the credit cycle turns, they'll be the ones getting paid.

Here's to our health, wealth, and a great retirement,

Dr. David Eifrig

Editor's note: According to two world-class analysts at our corporate affiliate Altimetry, a rare distortion in the credit markets is creating an opportunity that has never existed before. It offers the potential to double your money – all with a risk profile closer to U.S. Treasurys than stocks. But this "port in the storm" could vanish within weeks.