Today was a good day. Payed off the house and car.
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JHZR2
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Well I own to New Jersey municipal bond funds that yield around 6%. You never said his mortgage was 1.5%, rather that after the tax incentive it was roughly there.
Of course the challenge still lies. Interest rates are so low right now that when they go back up the value of ai bond fund will drop like a rock. so even if he keeps yielding well the principle just vaporized into thin air.
Meanwhile again you have a large mortgage balance which has interest that is continually compounding, with next to no principle being paid down for many many years on a 30 year loan, and you're sucking away a ton of the field between principal interest property taxes etc. In the investment account, so it's not compounding and when rates rise its net value will drop like crazy.
Of course the challenge still lies. Interest rates are so low right now that when they go back up the value of ai bond fund will drop like a rock. so even if he keeps yielding well the principle just vaporized into thin air.
Meanwhile again you have a large mortgage balance which has interest that is continually compounding, with next to no principle being paid down for many many years on a 30 year loan, and you're sucking away a ton of the field between principal interest property taxes etc. In the investment account, so it's not compounding and when rates rise its net value will drop like crazy.
Originally Posted By: JHZR2
Well I own to New Jersey municipal bond funds that yield around 6%. You never said his mortgage was 1.5%, rather that after the tax incentive it was roughly there.
Of course the challenge still lies. Interest rates are so low right now that when they go back up the value of ai bond fund will drop like a rock. so even if he keeps yielding well the principle just vaporized into thin air.
Meanwhile again you have a large mortgage balance which has interest that is continually compounding, with next to no principle being paid down for many many years on a 30 year loan, and you're sucking away a ton of the field between principal interest property taxes etc. In the investment account, so it's not compounding and when rates rise its net value will drop like crazy.
Good point, in order for FoxS' investment to work he has to hold the bond till the end. If he plan to sell the bond before maturity, the rising rate could actually hurt him.
Assume interest rate will not drop any further, he might make more money right now selling the investment, pay the tax, and pay off the mortgage with a net gain instantly, than holding on to a tax free government bond that has dropped market value and keep collecting interest till maturity, pay no income tax on it, pay the mortgage, and make a small positive cash flow for 30 years.
Well I own to New Jersey municipal bond funds that yield around 6%. You never said his mortgage was 1.5%, rather that after the tax incentive it was roughly there.
Of course the challenge still lies. Interest rates are so low right now that when they go back up the value of ai bond fund will drop like a rock. so even if he keeps yielding well the principle just vaporized into thin air.
Meanwhile again you have a large mortgage balance which has interest that is continually compounding, with next to no principle being paid down for many many years on a 30 year loan, and you're sucking away a ton of the field between principal interest property taxes etc. In the investment account, so it's not compounding and when rates rise its net value will drop like crazy.
Good point, in order for FoxS' investment to work he has to hold the bond till the end. If he plan to sell the bond before maturity, the rising rate could actually hurt him.
Assume interest rate will not drop any further, he might make more money right now selling the investment, pay the tax, and pay off the mortgage with a net gain instantly, than holding on to a tax free government bond that has dropped market value and keep collecting interest till maturity, pay no income tax on it, pay the mortgage, and make a small positive cash flow for 30 years.
What was the maturity on your 6% bond? Could you have purchased a 6% for 30 years bond at par and then turn around and get 30 year mortgage for 3%? I understand at two different times in the past you could have done both but not at the same time. Besides, to the best of my knowledge there were no 30 years bond with "sure fire" stability.
The trouble is when you could have gotten 6% on your bond, the typical mortgage were running 10%.
The trouble is when you could have gotten 6% on your bond, the typical mortgage were running 10%.
JHZR2
Staff member
Originally Posted By: Vikas
What was the maturity on your 6% bond? Could you have purchased a 6% for 30 years bond at par and then turn around and get 30 year mortgage for 3%? I understand at two different times in the past you could have done both but not at the same time. Besides, to the best of my knowledge there were no 30 years bond with "sure fire" stability.
The trouble is when you could have gotten 6% on your bond, the typical mortgage were running 10%.
No, I said funds.
Note the yields on this:
http://finance.yahoo.com/q?s=BNJ
I also hold MUJ which is closed-end, and doesnt state a yield on yahoo finance, but it is 5.60% (it was listed as over 6% recently).
So this is a NJ muni funds so the yield is tax free. A combo of munis and taxed bond funds would offer yield somewhere around that rate.
But again, when the interest rates start going up, the funds will drop in asset value (share price), erroding principal.
If I held individual bonds, I suspect that the yield would be lower, but these funds can use leverage in ways that individuals can't. Same reason why REITs can yield 10%+ when their mortgages are going out at 3%.
Still, the principle risk exists and is very real in this environment. By and hold of individual bonds would give more like 2% tax free in munis... Not sure about corporate.
It is frought with risk, and I suspect not very profitable in the long run, since all that compounding interest on the money in the bonds or funds is frittered away. $1 in interest gets 40c back. What a deal. Plus no compounding. I gave the values for the power of compounding a few pages back.
What was the maturity on your 6% bond? Could you have purchased a 6% for 30 years bond at par and then turn around and get 30 year mortgage for 3%? I understand at two different times in the past you could have done both but not at the same time. Besides, to the best of my knowledge there were no 30 years bond with "sure fire" stability.
The trouble is when you could have gotten 6% on your bond, the typical mortgage were running 10%.
No, I said funds.
Note the yields on this:
http://finance.yahoo.com/q?s=BNJ
I also hold MUJ which is closed-end, and doesnt state a yield on yahoo finance, but it is 5.60% (it was listed as over 6% recently).
So this is a NJ muni funds so the yield is tax free. A combo of munis and taxed bond funds would offer yield somewhere around that rate.
But again, when the interest rates start going up, the funds will drop in asset value (share price), erroding principal.
If I held individual bonds, I suspect that the yield would be lower, but these funds can use leverage in ways that individuals can't. Same reason why REITs can yield 10%+ when their mortgages are going out at 3%.
Still, the principle risk exists and is very real in this environment. By and hold of individual bonds would give more like 2% tax free in munis... Not sure about corporate.
It is frought with risk, and I suspect not very profitable in the long run, since all that compounding interest on the money in the bonds or funds is frittered away. $1 in interest gets 40c back. What a deal. Plus no compounding. I gave the values for the power of compounding a few pages back.
Originally Posted By: FoxS
Yikes!
You know how banks make their money right? They borrow money at a lower rate than they lend it out (plus they are allowed to lend out x times what they borrow).
Sure, one way is that Banks get guys to take out a loan to buy a house, the bank owns the house through their mortgage, the guy gets to pay them some points just for the privilege of getting to borrow the money, he pays interest on the loan for ten, fifteen, even thirty years, pays for all the maintenance and upkeep on the bank's property, and pays for the taxes and insurance on it to boot.
The difference between you and the bank is that the bank owns something tangible, real property - the house your family is living in. You own a piece of paper, mere personal property - a contract to pay you some sum of money.
The bank's position is not dependent on market conditions, or tax laws changing, your position is.
Good luck with your spread strategy, hope it works out for you. Just because the bankruptcy courts are full of people who confused "net worth" and actually owning something, doesn't mean it won't work. I own both my houses free of mortgage debt. Personally, I would never leverage a home as an investment. There are much better ways to make money.
Yikes!
You know how banks make their money right? They borrow money at a lower rate than they lend it out (plus they are allowed to lend out x times what they borrow).
Sure, one way is that Banks get guys to take out a loan to buy a house, the bank owns the house through their mortgage, the guy gets to pay them some points just for the privilege of getting to borrow the money, he pays interest on the loan for ten, fifteen, even thirty years, pays for all the maintenance and upkeep on the bank's property, and pays for the taxes and insurance on it to boot.
The difference between you and the bank is that the bank owns something tangible, real property - the house your family is living in. You own a piece of paper, mere personal property - a contract to pay you some sum of money.
The bank's position is not dependent on market conditions, or tax laws changing, your position is.
Good luck with your spread strategy, hope it works out for you. Just because the bankruptcy courts are full of people who confused "net worth" and actually owning something, doesn't mean it won't work. I own both my houses free of mortgage debt. Personally, I would never leverage a home as an investment. There are much better ways to make money.
You're all now getting closer to understanding this. Some tips.
You can't always figure out the logic with words. Get excel out and look at the actual numbers. Some misconceptions:
Compounding - the interest on the mortgage is not compounding. You pay an interest rate on the balance outstanding. So long as this is lower than your investment return it will always be better to maintain as large a balance as possible. If you can get 2% on a 10 year fixed, that is better than 4% on a 30 year fixed but not because of the term but because of the rate.
Bond return - if you hold a bond directly with 6% return then you face the decision of selling it when the market price rises or holding it to maturity at which point you will get face value. The current value of the bond equals the net present value at that point in time. The only downside to owning bonds directly is the risk. If you have enough to invest you can build a portfolio thus you get the advantage of a bond fund in terms of risk, with the freedom to choose which you hold to maturity.
As PandaBear says, it may be worth selling some bonds now and paying some mortgage. Indeed this is what I am planning to do as I have an investment mortgage that is costing 4% rather than 1.5%.
Put the numbers on paper and compare like to like. You will see that my strategy of not paying of a mortgage that costs 1.5% generates more savings than paying it down as fast as possible.
You can't always figure out the logic with words. Get excel out and look at the actual numbers. Some misconceptions:
Compounding - the interest on the mortgage is not compounding. You pay an interest rate on the balance outstanding. So long as this is lower than your investment return it will always be better to maintain as large a balance as possible. If you can get 2% on a 10 year fixed, that is better than 4% on a 30 year fixed but not because of the term but because of the rate.
Bond return - if you hold a bond directly with 6% return then you face the decision of selling it when the market price rises or holding it to maturity at which point you will get face value. The current value of the bond equals the net present value at that point in time. The only downside to owning bonds directly is the risk. If you have enough to invest you can build a portfolio thus you get the advantage of a bond fund in terms of risk, with the freedom to choose which you hold to maturity.
As PandaBear says, it may be worth selling some bonds now and paying some mortgage. Indeed this is what I am planning to do as I have an investment mortgage that is costing 4% rather than 1.5%.
Put the numbers on paper and compare like to like. You will see that my strategy of not paying of a mortgage that costs 1.5% generates more savings than paying it down as fast as possible.
Originally Posted By: Win
Originally Posted By: FoxS
Yikes!
You know how banks make their money right? They borrow money at a lower rate than they lend it out (plus they are allowed to lend out x times what they borrow).
Sure, one way is that Banks get guys to take out a loan to buy a house, the bank owns the house through their mortgage, the guy gets to pay them some points just for the privilege of getting to borrow the money, he pays interest on the loan for ten, fifteen, even thirty years, pays for all the maintenance and upkeep on the bank's property, and pays for the taxes and insurance on it to boot.
The difference between you and the bank is that the bank owns something tangible, real property - the house your family is living in. You own a piece of paper, mere personal property - a contract to pay you some sum of money.
The bank's position is not dependent on market conditions, or tax laws changing, your position is.
Good luck with your spread strategy, hope it works out for you. Just because the bankruptcy courts are full of people who confused "net worth" and actually owning something, doesn't mean it won't work. I own both my houses free of mortgage debt. Personally, I would never leverage a home as an investment. There are much better ways to make money.
I can own my home outright if I want to. But it doesn't make financial sense.
I also own rather than rent because I can do what I want with the property and it is actually cheaper than rent even with property tax, insurance and maintenance.
In a few years time, my investments will be paying both my mortgage and generating enough return to replace my salary.
Once you understand that there is a tipping point in terms of generating wealth through investing, you'll see why you want to free as much cash flow as possible to invest.
Don't take my word for it, ask Warren Buffet. Do you know why he is in insurance? For float to invest. Do you know why he didn't give to charity until Bill Gates persuaded him to? Because he felt he could make more by investing and give more later. Same reason he is so frugal with how he lives. He wanted cash to invest.
Originally Posted By: FoxS
Yikes!
You know how banks make their money right? They borrow money at a lower rate than they lend it out (plus they are allowed to lend out x times what they borrow).
Sure, one way is that Banks get guys to take out a loan to buy a house, the bank owns the house through their mortgage, the guy gets to pay them some points just for the privilege of getting to borrow the money, he pays interest on the loan for ten, fifteen, even thirty years, pays for all the maintenance and upkeep on the bank's property, and pays for the taxes and insurance on it to boot.
The difference between you and the bank is that the bank owns something tangible, real property - the house your family is living in. You own a piece of paper, mere personal property - a contract to pay you some sum of money.
The bank's position is not dependent on market conditions, or tax laws changing, your position is.
Good luck with your spread strategy, hope it works out for you. Just because the bankruptcy courts are full of people who confused "net worth" and actually owning something, doesn't mean it won't work. I own both my houses free of mortgage debt. Personally, I would never leverage a home as an investment. There are much better ways to make money.
I can own my home outright if I want to. But it doesn't make financial sense.
I also own rather than rent because I can do what I want with the property and it is actually cheaper than rent even with property tax, insurance and maintenance.
In a few years time, my investments will be paying both my mortgage and generating enough return to replace my salary.
Once you understand that there is a tipping point in terms of generating wealth through investing, you'll see why you want to free as much cash flow as possible to invest.
Don't take my word for it, ask Warren Buffet. Do you know why he is in insurance? For float to invest. Do you know why he didn't give to charity until Bill Gates persuaded him to? Because he felt he could make more by investing and give more later. Same reason he is so frugal with how he lives. He wanted cash to invest.
JHZR2
Staff member
Originally Posted By: FoxS
Some misconceptions:
Compounding - the interest on the mortgage is not compounding. You pay an interest rate on the balance outstanding. So long as this is lower than your investment return it will always be better to maintain as large a balance as possible. If you can get 2% on a 10 year fixed, that is better than 4% on a 30 year fixed but not because of the term but because of the rate.
Youre right, it doesnt compound in a true sense. But what happens is that in year 1, you may pay 1% of principal on a 30 year note. So youre paying full interest and next to nothing on principal. Year two, you may pay another 1.1% of principal, but youre effectively paying the same interest again. True, it isnt compounding (an incorrect term but one I stuck with since I used it early). Youre just paying a LOT of interest and losing the compounding on other investment vehicles.
Some misconceptions:
Compounding - the interest on the mortgage is not compounding. You pay an interest rate on the balance outstanding. So long as this is lower than your investment return it will always be better to maintain as large a balance as possible. If you can get 2% on a 10 year fixed, that is better than 4% on a 30 year fixed but not because of the term but because of the rate.
Youre right, it doesnt compound in a true sense. But what happens is that in year 1, you may pay 1% of principal on a 30 year note. So youre paying full interest and next to nothing on principal. Year two, you may pay another 1.1% of principal, but youre effectively paying the same interest again. True, it isnt compounding (an incorrect term but one I stuck with since I used it early). Youre just paying a LOT of interest and losing the compounding on other investment vehicles.
Originally Posted By: JHZR2
Originally Posted By: FoxS
Some misconceptions:
Compounding - the interest on the mortgage is not compounding. You pay an interest rate on the balance outstanding. So long as this is lower than your investment return it will always be better to maintain as large a balance as possible. If you can get 2% on a 10 year fixed, that is better than 4% on a 30 year fixed but not because of the term but because of the rate.
Youre right, it doesnt compound in a true sense. But what happens is that in year 1, you may pay 1% of principal on a 30 year note. So youre paying full interest and next to nothing on principal. Year two, you may pay another 1.1% of principal, but youre effectively paying the same interest again. True, it isnt compounding (an incorrect term but one I stuck with since I used it early). Youre just paying a LOT of interest and losing the compounding on other investment vehicles.
It doesn't matter whether it is compounding or not, and shouldn't get too hung up on it. The point remains that you pay far more interest in it than the principle if you get a high interest or a long term loan, and it is a bad deal if you are not using the borrowed money in a good way.
Originally Posted By: FoxS
I can own my home outright if I want to. But it doesn't make financial sense.
I also own rather than rent because I can do what I want with the property and it is actually cheaper than rent even with property tax, insurance and maintenance.
In a few years time, my investments will be paying both my mortgage and generating enough return to replace my salary.
Once you understand that there is a tipping point in terms of generating wealth through investing, you'll see why you want to free as much cash flow as possible to invest.
Don't take my word for it, ask Warren Buffet. Do you know why he is in insurance? For float to invest. Do you know why he didn't give to charity until Bill Gates persuaded him to? Because he felt he could make more by investing and give more later. Same reason he is so frugal with how he lives. He wanted cash to invest.
As I mentioned before, and to put it in a simpler term, you got lucky with good time to market and have a good stable income, credit score, and income to debt ratio to back up the low rate you are paying right now.
You are also pricing the investment and mortgage based on your own definition of price at your own definition of time. So yes you are making a 6% yield on your bond you bought previously, instead of pricing it at a higher market value and lower market yield. If you price that right, it may not be as high as you bragged about, and certainly new comer to your investment scheme may not be entering and exiting the market with as good of a timing and luck as you did.
This doesn't means it is a bad choice, but it is certainly not always repeatable for everyone. Even Warren Buffet said he wouldn't bought Coca Cola at the current price, but he was fortunate (and smart) that he bought them when it was cheap decades ago.
Originally Posted By: FoxS
Some misconceptions:
Compounding - the interest on the mortgage is not compounding. You pay an interest rate on the balance outstanding. So long as this is lower than your investment return it will always be better to maintain as large a balance as possible. If you can get 2% on a 10 year fixed, that is better than 4% on a 30 year fixed but not because of the term but because of the rate.
Youre right, it doesnt compound in a true sense. But what happens is that in year 1, you may pay 1% of principal on a 30 year note. So youre paying full interest and next to nothing on principal. Year two, you may pay another 1.1% of principal, but youre effectively paying the same interest again. True, it isnt compounding (an incorrect term but one I stuck with since I used it early). Youre just paying a LOT of interest and losing the compounding on other investment vehicles.
It doesn't matter whether it is compounding or not, and shouldn't get too hung up on it. The point remains that you pay far more interest in it than the principle if you get a high interest or a long term loan, and it is a bad deal if you are not using the borrowed money in a good way.
Originally Posted By: FoxS
I can own my home outright if I want to. But it doesn't make financial sense.
I also own rather than rent because I can do what I want with the property and it is actually cheaper than rent even with property tax, insurance and maintenance.
In a few years time, my investments will be paying both my mortgage and generating enough return to replace my salary.
Once you understand that there is a tipping point in terms of generating wealth through investing, you'll see why you want to free as much cash flow as possible to invest.
Don't take my word for it, ask Warren Buffet. Do you know why he is in insurance? For float to invest. Do you know why he didn't give to charity until Bill Gates persuaded him to? Because he felt he could make more by investing and give more later. Same reason he is so frugal with how he lives. He wanted cash to invest.
As I mentioned before, and to put it in a simpler term, you got lucky with good time to market and have a good stable income, credit score, and income to debt ratio to back up the low rate you are paying right now.
You are also pricing the investment and mortgage based on your own definition of price at your own definition of time. So yes you are making a 6% yield on your bond you bought previously, instead of pricing it at a higher market value and lower market yield. If you price that right, it may not be as high as you bragged about, and certainly new comer to your investment scheme may not be entering and exiting the market with as good of a timing and luck as you did.
This doesn't means it is a bad choice, but it is certainly not always repeatable for everyone. Even Warren Buffet said he wouldn't bought Coca Cola at the current price, but he was fortunate (and smart) that he bought them when it was cheap decades ago.
My bond example was just to demonstrate a low risk investment that is paying off a mortgage. My return on equity investments is well over 10% over the long term. As I build up more capital, I'm hoping to spend more time on that and up the return.
Maybe there is some luck, but there is also a conscious strategy on timing. More importantly, as your net worth improves then you can simply decide when to have a mortgage or not.
I don't believe one needs 1.5% to make this strategy worthwhile. Real interest rates on most mortgages after tax are arguably zero. Inflation, hidden or measured will protect the value of reasonable quality assets while effectively reducing principal.
Maybe there is some luck, but there is also a conscious strategy on timing. More importantly, as your net worth improves then you can simply decide when to have a mortgage or not.
I don't believe one needs 1.5% to make this strategy worthwhile. Real interest rates on most mortgages after tax are arguably zero. Inflation, hidden or measured will protect the value of reasonable quality assets while effectively reducing principal.
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