Posted on 06/27/2007 6:26:45 AM PDT by BenLurkin
was going to write a humor piece about the horrors of summer business travel, but after a spectacularly terrifying experience last night flying from Chicago to L.A., I decided I'd better put that in the "too awful to be told" category rather than the humor one for a while.
Instead, I'll deal with some frequently asked questions about finance, and personal finance in particular.
Plenty of Liquids
I get many letters asking whether it's better to pay off your mortgage or invest the money in the stock market instead. This is a complex question, but I'll offer several ways of thinking about it.
First, no one ever spent a sleepless night because she had millions in the bank and stocks but didn't have her home paid off. On the other hand, if you pay off your mortgage and deprive yourself of liquidity, you could be in for some miserable times.
As I see it, if money is even the slightest bit tight, hold onto it and pay off the mortgage month by month. There's nothing magically good about having a paid-off mortgage, but there's something seriously bad about not having ready liquid assets even if your home is paid for.
Slow and Steady
Yes, I know you can refinance and borrow against your house. But that takes time and creates aggravation. Why not just pay off the mortgage slowly but steadily and hang onto the liquidity that makes life so much more comfortable instead?
This is especially true if you're an older person. It doesn't do you one bit of harm to leave a home with a mortgage to your heirs. That's their problem -- and it's a very small problem.
It's far better in your later years to have cash on hand when you need it than to burn the mortgage note in the proverbial fireplace.
On Returning
But what if you can pay off the mortgage and still have plenty left for your liquidity needs? Even then, I'd think twice about rushing to pay off the mortgage.
As pointed out to me by my fraternity brother Larry Lissitzyn -- a very smart investor -- we earn, in rough terms, what the rate of interest was on a mortgage (not counting the immense tax benefit of the mortgage interest's deductibility) when we pay it off.
That is, if you have a mortgage with 6.5 percent interest, you'd earn roughly 6.5 percent by paying it off early. That's a fine rate of return and nothing to sneeze at. But the rate of return on broad U.S. stock market indexes over very long periods is closer to 9 percent -- a substantial difference.
Stocking Up
To be sure, there are long periods when the stock market doesn't return even close to 9 percent per annum. But it usually does, again on average and again over long periods. So you might be better off -- again -- just paying off your mortgage month by month and not taking the money out of the stock market.
On the other hand, if you have plenty of stocks according to your investment advisor and a huge surplus of cash -- which many people do have -- you might well want to use some of that to pay down your mortgage. A standard mortgage is now in the high sixes, and you won't get a risk-free return of that scale on any cash instrument I know of.
In short, unless you're sitting on surplus cash, I see no urgent reason to pay down or pay off your mortgage in a hurry.
Gold-Standard Advice
The second question I'm frequently asked is, Should I buy gold? I've never been a fan of gold as an investment. I know that since the early 1970s it's gone up from about $35 an ounce to (at one point) the high nine-hundreds. But it's also fluctuated wildly.
Gold has been "limit down" day after day in some bad periods. It dropped by almost two-thirds from the late '70s into the early '80s. It pays no dividends. And it's subject to attempts at market manipulation.
If you feel you absolutely must participate in precious metals I suggest buying gold jewelry, or else buying stock in highly diversified precious metals ETFs and mutual funds that combine many gold and silver mining stocks from all over the world. They fluctuate far less often than the raw material, yet they can grow dramatically if the metals rise.
Gold is lovely as a gift, then, but I don't see it as an investment for the ordinary citizen unless he or she is compulsively attached to its luster.
Trust Funds
Third, how do you play the falling dollar? Again, I wouldn't recommend speculation in the currency itself. That's far, far, far too treacherous for the ordinary investor.
But you can buy mutual funds and ETFs that own European, Asian, and Australian stocks, plus Canadian and South American stocks. These are usually denominated in the local currency. As it rises against the dollar, your investment is translated back into dollars and gets to be ever more valuable. Plus, you have the gain in profitability of the foreign stocks should there be any.
As I've said many times, I recommend the EFA ETF for investments in European, Australian, and Asian developed economies -- it's especially heavy into the United Kingdom. I recommend the EEM or the ADRE for investments in developing countries in Asia, South and Central America, and Eastern Europe. All of these have benefited greatly in recent years from the dollar's fall, and they do pay dividends, unlike gold.
The growth in value of these funds has been so immense that I wouldn't expect it to continue at anything like the recent rate. And there have been some serious fluctuations in the developing markets, even to a stomach-turning degree. But even if the EFA, the EEM, and ADRE grew at half their recent rate, you'd handily beat the Dow and S&P's recent moves. I wouldn't put most of my savings into these vehicles, but for a quarter to a half, you might consider it..
Actually it's worse than that for most people because that interest is tax deductible. So you're getting more like a 4% return. NOT THAT GREAT!
Most folks, if they didn’t have a monthly mortgage payment, would be much more liquid than they are now. And besides, while you still owe the bank money it’s not really your home anyway.
Personally, I prefer the security of being debt free and I am working hard to get that security. I will eventually have my income working for me, but in the meantime I prefer not to have my debt working for me....
Paying off your mortgage and selling your home are two entirely different things.
But if they have to use $100,000 or $200,000 of cash to become mortgage free, exactly how does that make them 'more liquid'?
Exactly!
The typical after-tax 'cost' of a mortgage today is something like 4%. If someone had several hundred thousand dollars of cash to pay off their mortgage, it would be better for them to just put that money in something like a 401K. Once it's parked into "the house", you don't have access to it.
Not really. If your mortgage was $200,000, and you kept that amount of money in liquid assets, you could always use it to make mortgage and property tax payments. If you had no money and no mortgage, you could lose the house by not paying property taxes. Cash is king!
Cash flow is king.
By putting all of my effort towards becoming debt free, I will have a paid off house and will be able to heavily invest towards retirement. I estimated the difference between that plan and doing the normal 15% retirement savings and normal monthly mortgage payment.
The final difference between the two is approximately $33K less in a retirement fund, but a savings of $75K in mortgage interest. I think that $33K buying security for me in my retirement years is well worth the investment.
Yep, with a mortgage you are one extended medical issue away from being homeless....
And then pay it off with what?
Quiz.. Who will be homeless first, the person with a $250,000 mortgage and $250,000 of cash in the bank, OR, the person with no mortgage and no cash in the bank? If you are sick or unemployed, you have to go begging to some bank to get your cash back out of the house to help pay for your illness.
So do I. There is way too much "good debt" propaganda being circulated by those who stand to profit from it.
Your post postulated the mortage was $200k, and that you had that amount in liquid assets. If paying the taxes were a problem, simply wait until your liquid assets were $220k or so, then use $200k of that to pay off the mortgage. You’ll $20k of padding left over for things like taxes for that year (I can’t imagine that taxes would be 20,000 dollars on any reasonably sized house).
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