Author Topic: buying an 'anti-bond' to insure against inflation  (Read 3940 times)

Mr Mark

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buying an 'anti-bond' to insure against inflation
« on: July 31, 2014, 07:55:22 PM »
We all should all know one of the biggest risks in FIRE is inflation.

if you're on some kind of fixed income, inflation will eat away your purchasing power if your stash doesn't more than keep pace with it.

One defense is to buy a long term anti-bond. A liability that stays nominally fixed and will gradually erode in value.in exchange, the proceeds are invested in growth such as stocks or real estate. 

An the easiest way to get that is - if you live in the USA at least - a 30 year fixed rate mortgage. So in the process of buying a house we will get an 80% mortgage fixed at around 4.1%, 3% posttax. This debt will shrink over time, and only represents less than 20% of the stash, but it will help take the sting out of long term inflation being higher than expected.  Plus, this long term rate is being artificially kept low by the fed. This is presumably why few other countries have economies or exchange rates stable enough to offer such products.

Also, its something to get before FIRE, and on a property you can keep for 30 years!

The balance of the loan will be offset by a bigger stash. Partly including rental properties that will throw off way more cash than would be saved by having all that equity in the house.
« Last Edit: July 31, 2014, 07:58:03 PM by Mr Mark »

milesdividendmd

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Re: buying an 'anti-bond' to insure against inflation
« Reply #1 on: July 31, 2014, 08:42:23 PM »
We all should all know one of the biggest risks in FIRE is inflation.

if you're on some kind of fixed income, inflation will eat away your purchasing power if your stash doesn't more than keep pace with it.

One defense is to buy a long term anti-bond. A liability that stays nominally fixed and will gradually erode in value.in exchange, the proceeds are invested in growth such as stocks or real estate. 

An the easiest way to get that is - if you live in the USA at least - a 30 year fixed rate mortgage. So in the process of buying a house we will get an 80% mortgage fixed at around 4.1%, 3% posttax. This debt will shrink over time, and only represents less than 20% of the stash, but it will help take the sting out of long term inflation being higher than expected.  Plus, this long term rate is being artificially kept low by the fed. This is presumably why few other countries have economies or exchange rates stable enough to offer such products.

Also, its something to get before FIRE, and on a property you can keep for 30 years!

The balance of the loan will be offset by a bigger stash. Partly including rental properties that will throw off way more cash than would be saved by having all that equity in the house.

I like it Mr. Mark, but I think I'd rather just own my house out right, and spend the mortgage money on I bonds and tips.

The difficult thing with my strategy is having enough tax sheltered space to store them in. (Particularly the tips.)

ect

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Re: buying an 'anti-bond' to insure against inflation
« Reply #2 on: August 01, 2014, 08:06:13 AM »
Plus, this long term rate is being artificially kept low by the fed.

In the gold bug cavemen thread, a couple posters recommended Daniel Amerman, author of "The Secret Power Within Your Mortgage." Sounds like his strategy is similar.

I would worry that I'm using artificially cheap money to buy artificially expensive assets. Do you judge real estate to be fairly valued?

matchewed

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Re: buying an 'anti-bond' to insure against inflation
« Reply #3 on: August 01, 2014, 08:10:33 AM »
Yeah I'm a big fan of the idea of getting a mortgage right before you FIRE, as long as you can get a low rate by historical standards.

Mr Mark

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Re: buying an 'anti-bond' to insure against inflation
« Reply #4 on: August 01, 2014, 10:41:54 AM »
Plus, this long term rate is being artificially kept low by the fed.

In the gold bug cavemen thread, a couple posters recommended Daniel Amerman, author of "The Secret Power Within Your Mortgage." Sounds like his strategy is similar.

I would worry that I'm using artificially cheap money to buy artificially expensive assets. Do you judge real estate to be fairly valued?

well, you can decide what return you want, and look for deals that meet or exceed that. I'm looking at properties that are asking price of 10k to 30k, with monthly rents around 500 - 800. By making conservative assumptions on maintenance costs, vacancy rates and property management fees, you can see what the cashflow looks like.

the rough rule would value a 30k/800 assuming 50% expences, at a cashflow of around 4400k per year, about a 15% roi.

Yes, you're taking risks. But borrowing at 3% to invest at 15% (even more if you leverage the rental properties) seems like a good idea to me. Any appreciation is just icing on the cake.

milesdividendmd

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Re: buying an 'anti-bond' to insure against inflation
« Reply #5 on: August 01, 2014, 11:13:22 AM »
Plus, this long term rate is being artificially kept low by the fed.

In the gold bug cavemen thread, a couple posters recommended Daniel Amerman, author of "The Secret Power Within Your Mortgage." Sounds like his strategy is similar.

I would worry that I'm using artificially cheap money to buy artificially expensive assets. Do you judge real estate to be fairly valued?

well, you can decide what return you want, and look for deals that meet or exceed that. I'm looking at properties that are asking price of 10k to 30k, with monthly rents around 500 - 800. By making conservative assumptions on maintenance costs, vacancy rates and property management fees, you can see what the cashflow looks like.

the rough rule would value a 30k/800 assuming 50% expences, at a cashflow of around 4400k per year, about a 15% roi.

Yes, you're taking risks. But borrowing at 3% to invest at 15% (even more if you leverage the rental properties) seems like a good idea to me. Any appreciation is just icing on the cake.

Ah,

That makes more sense.  The mortgage you're referring to is for a rental property.

My hesitation about getting into real estate is pure laziness and liability concern.  As an MD I have more than enough work and liabilty concerns to reach my fill.  In the end it is just not passive enough for me, (at least prior to FIRE.) 

But your plan certainly pencils out nicely.  You are beating inflation 2 ways (fixed mortgage and real estate).

Good plan!


ect

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Re: buying an 'anti-bond' to insure against inflation
« Reply #6 on: August 01, 2014, 11:46:48 AM »
I'm looking at properties that are asking price of 10k to 30k, with monthly rents around 500 - 800.

I drooled a little :)

Mr Mark

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Re: buying an 'anti-bond' to insure against inflation
« Reply #7 on: August 01, 2014, 12:24:39 PM »
I'm looking at properties that are asking price of 10k to 30k, with monthly rents around 500 - 800.

I drooled a little :)

There are a couple of distortions in the market. One is that many American residents earn ok, but have zero ( or negative) net worth, so they cannot get financing for a house purchase, and must rent.

second is banks often won't do a mortgage on a house worth less than 40k, and anyone with cash who isn't an investor could buy something nicer.

Miles, no, the mortgage will be on my primary residence,  that way you get best terms. I then take that money and invest in other, rent paying property. The whole trick will be getting a decent property manager...

arebelspy

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Re: buying an 'anti-bond' to insure against inflation
« Reply #8 on: August 26, 2014, 08:29:47 AM »
Yeah I'm a big fan of the idea of getting a mortgage right before you FIRE, as long as you can get a low rate by historical standards.

+1.  Inflation is the early retiree's #1 enemy, much more so than a market crash (assuming you ride it out, don't panic sell), so going short the dollar via a long term, fixed, low rate mortgage is a great move to make one's retirement stache much more likely to last, IMO.
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dodojojo

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Re: buying an 'anti-bond' to insure against inflation
« Reply #9 on: August 26, 2014, 08:39:11 AM »
Hmmm...this is one is hard for me to get my head around (it's early here).  So as a lifelong renter, taking on a mortgage when I FIRE may actually make more sense than continuing to rent?

skunkfunk

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Re: buying an 'anti-bond' to insure against inflation
« Reply #10 on: August 26, 2014, 08:44:50 AM »
Just remember there is risk involved. Risk of losing your equity (floods aren't covered for instance), risk of getting bad returns on the money. You stand to lose more money than you put in. So if invested in the stock market, take (expected returns) - (interest rate) = (interest rate on money invested)  and remember that you will have the SAME standard deviation on that money. So for instance it goes from expected 6% returns +/- 18% to expected 2% returns +/- 18%. Not a risk that I will be taking.

Half-Borg

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Re: buying an 'anti-bond' to insure against inflation
« Reply #11 on: August 26, 2014, 08:58:50 AM »
If you want something for an inflation, any asset will do.
Shares: If prices rise, the company earns more money and pays higher dividends. They may take a hit at first, but usually bounce back.
Commodities: Well obvious. Gold does not lose value in times of inflation.
Real estate: Why do you want to take out a mortage? A huge part of inflation is rising rents, so any form of rental property will do, e.g. REITs.
Bonds: There are inflation linked bonds.

matchewed

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Re: buying an 'anti-bond' to insure against inflation
« Reply #12 on: August 26, 2014, 10:45:14 AM »
Hmmm...this is one is hard for me to get my head around (it's early here).  So as a lifelong renter, taking on a mortgage when I FIRE may actually make more sense than continuing to rent?

Yes given a future where inflation is present. Whether that inflation is a short spike which can be harmful or the general rise of inflation we see today at a slow pace. With a mortgage (assumed 30 year) you will have 30 years where your mortgage payment is getting smaller and smaller relative to rising value of the dollar. With renting for life you can expect your landlord to increase rents relative to the rising value of the dollar. There may be some short term situations where that increase doesn't happen but it inevitably will, leases expiring...etc. See my other answer to Half-Borg below for a demonstration on how inflation affects mortgage payments.

Real estate: Why do you want to take out a mortage?

Because a fixed payment lowers in value relative to a rise in inflation (or rise in the value of the dollar being used). If I have a $500 mortgage payment and one dollar is worth one dollar today, X number of years down the line when one dollar is worth two my mortgage payment of $500 is now $250 given that level of inflation. Rent may or may not be revisited (and a landlord generally will if inflation is rising as his/her costs are also rising).

arebelspy

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Re: buying an 'anti-bond' to insure against inflation
« Reply #13 on: August 26, 2014, 11:18:29 AM »
Real estate: Why do you want to take out a mortage?

Because a fixed payment lowers in value relative to a rise in inflation (or rise in the value of the dollar being used). If I have a $500 mortgage payment and one dollar is worth one dollar today, X number of years down the line when one dollar is worth two my mortgage payment of $500 is now $250 given that level of inflation.

This.  So even if your house is paid off, so you say "then I don't have to worry about rents rising," a mortgage could help you because you can invest that money and years later those investments are kicking off more than enough to pay that mortgage and extra to live on - i.e. you end up with more money, because those assets you invested in beat inflation, and your fixed cost was eroded by inflation.
We are two former teachers who accumulated a bunch of real estate, retired at 29, and now travel the world full time with two kids.
If you want to know more about me, or how we did that, or see lots of pictures, this Business Insider profile tells our story pretty well.
We (rarely) blog at AdventuringAlong.com. Check out our Now page to see what we're up to currently.

Mr Mark

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Re: buying an 'anti-bond' to insure against inflation
« Reply #14 on: August 26, 2014, 12:40:46 PM »
If you want something for an inflation, any asset will do.
Shares: If prices rise, the company earns more money and pays higher dividends. They may take a hit at first, but usually bounce back.
Commodities: Well obvious. Gold does not lose value in times of inflation.
Real estate: Why do you want to take out a mortage? A huge part of inflation is rising rents, so any form of rental property will do, e.g. REITs.
Bonds: There are inflation linked bonds.

perhaps. But with real estate, thanks to Janet Yellen et al, Freddie Mac, I can get a non-callable loan at very low fixed nominal rates secured by real estate. Yes, there is risk. But the exposure yield curve is capped at the downside, ie you could loose all equity, and infinite in upside ( appreciation, cash on cash yield much greater than mortgage).

But judiciciously keeping net asset debt ratios reasonable (say fixed rate debt less than 20% or so stash), you can make a lot more money. This is why I'll be buying 4 or 5 rentals that even after ive got the initial investment back will pay more in net cash flow than the mortgage on double the original investment. For ever.

Do the god damn math.