The Money Mustache Community
Learning, Sharing, and Teaching => Investor Alley => Topic started by: xpauliber on June 14, 2018, 12:29:17 PM
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I was talking with an attorney the other day about different investing strategies & different ideas for how to build wealth. I explained my dislike for any debt and how I'm working to eliminate my mortgage and remain debt free. He had a different opinion & told me that the majority of his net worth is from real-estate and that he has always carried a significant amount of debt in his life to invest in different real-estate projects. He even made the comment that if you pay your house off, "you have this huge asset sitting there doing nothing for you."
That got me thinking that he is technically correct in that if you own your home, it's providing you a basic necessity but you're not necessarily using it in any way to generate/build wealth. That also got me thinking about how most people lose money trying to time the market and even more people lose significant amounts of money by panicking & selling during a recession. If however you stay in the market, you'll recover all your losses once it recovers. Additionally, if you had a stack of cash sitting outside of the market, you could invest during a recession and make some excellent returns. Obviously, having cash outside of the market is losing value though and so most people don't have a significant amount except for their emergency fund which wouldn't be smart to invest.
But what about using the equity in your home to invest during a recession? Let's say you have $50,000 in equity that you could pull in the form of a home equity loan with today's rate of 5.75% on a 20-year term would have payments of $351/month.
I did a quick review of the last 5 major recessions and found that the average decline was 40% and the average duration was 22 months:
1973-74 (48% - 645 days)
1976-78 (19% - 531 days)
1980-82 (27% - 622 days)
2000-02 (49% - 929 days)
2007-09 (57% - 517 days)
Let's say hypothetically in the future, you wait until the market declines 25%, and then you take out a home equity loan of $50,000. You set a buy order to deploy $10,000 (20% of your total funds) when the market hits a 30% decline from its most recent peak. Once that executes, you set another buy order to deploy another 20% of your funds if the market hits a 35% decline. Again for a 40% decline. And again for a 45% decline. And lastly one for a 50% decline until all your money is deployed. If you take out the home equity loan and the market never drops to 30%, you simply pay off the home equity loan and move on.
Since the average duration of a recession is 22 months and let's say you took the loan out a quarter of the way though (month 6), you would have to pay roughly 16 months worth of P&I payments on your home equity loan ($5,616) but wouldn't the upside potential be tremendous?? Once the market fully recovers, you could sell everything, payoff the home equity loan, repay yourself the P&I that you've paid those 16 months, pay taxes and pocket the rest. Or you could just sell enough shares to payoff the home equity loan, repay yourself the P&I that you've paid those 16 months, pay taxes and let the balance of the shares stay in the market since we would more than likely be at the start of a bull run.
There could be some risk if you only got to deploy one stage of capital though since a 30% gain on your first $10k wouldn't cover the cost of carrying the whole $50k home equity for 16 months. Maybe it would be better to deploy 50% of your capital at the 30% decline mark and then dollar cost average the rest of the way down? If the market didn't drop further, you would still have the balance of the home equity loan to sit on until the market recovered and then pay it off completely. Maybe toss it in a money market account to earn a little bit of interest while you wait for the market to recover.
Two major factors before I'd even consider doing something like this:
1. I'd only consider investing in a total stock market index fund and not ever any individual company stocks
2. I'd only consider this if your free cash flow can more than adequately cover the cost of the home equity loan. For instance, my personal budget has free cash flow every month of about $1,500 which is more than 5 times the cost of the home equity loan so there's very limited chance that the home equity loan would cause any stress on my monthly budget.
Any thoughts/comments on this hypothetical situation?
Update: Added chart illustrating what I proposed in this post using actual data from Great Recession.
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Interactive Brokers offers margin loans for around 1.7%. I've decided to go without an emergency fund and just borrow from my broker in the event of a cash need.
Margin is always dangerous, whether its in the form of a HELOC or broker loan. It can be done successfully but it is important to have reasonable position sizing and a hedge.
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What do the rates on margin loans look like during a recession?
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Interactive Brokers offers margin loans for around 1.7%. I've decided to go without an emergency fund and just borrow from my broker in the event of a cash need.
Interesting, this is the first time I've heard of this strategy for an EF. What's the turnaround time between some hypothetical need for emergency funds and actually having cash in hand?
Also, wouldn't using the OP's strategy through a margin loan from a broker put you at risk of a margin call? I don't have any experience with buying on margin so maybe I'm off base here, but that wouldn't be a cause of concern with a HEL, right?
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Interactive Brokers offers margin loans for around 1.7%. I've decided to go without an emergency fund and just borrow from my broker in the event of a cash need.
Interesting, this is the first time I've heard of this strategy for an EF. What's the turnaround time between some hypothetical need for emergency funds and actually having cash in hand?
Also, wouldn't using the OP's strategy through a margin loan from a broker put you at risk of a margin call? I don't have any experience with buying on margin so maybe I'm off base here, but that wouldn't be a cause of concern with a HEL, right?
Immediate same day need is met by cc (2% cash back!), ACH from my broker to checking takes 2-3 business days. Plenty of time to pay off the cc without paying interest.
If you are borrowing to buy equity, you effectively have the threat of a margin call no matter what. If you can't cover you loan with your broker, they may sell your securities. If you can't cover your HELOC, your bank may foreclose.
My main taxable account is valued a little over 300k. In an emergency cash situation such as having to replace the a/c, washer and dryer, and water heater all at once, I'm looking at less than 10k. I'm FIRE so EF doesn't need to cover 6 months salary. Might be problematic if some reason I absolutely HAD to buy a new car for some unforeseen reason.
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10 year treasury rates (not sure how this correlates to HELOC rates but I assume it's in the vicinity)
1973-74 (48% - 645 days) - 7%
1976-78 (19% - 531 days) - 8%
1980-82 (27% - 622 days) - 12%
2000-02 (49% - 929 days) - 6%
2007-09 (57% - 517 days) - 5%
Today - 3%
Is this plan conditional on rates also? Or how bad CNBC says things really are? It's rough taking from cash flow to pay off the loan while most of your early investments suffer massive losses. Even near the bottom, it found more crazy bottoms. The news would salivate with messages of imminent doom if it went down 4% today.
https://web.archive.org/web/20090306090921/http://finance.yahoo.com:80/
It's not for me, but a system that involves leverage over time makes sense to me as a long term business or investing plan because you are not subject to short term whims ruining your plans. If I did this in 2008, and then got laid off (or was retired in the first place) I might do too much damage to recover. The idea is nice to throw around but the details always matter. Always, the problem with higher risk plans is your ability to execute.
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10 year treasury rates (not sure how this correlates to HELOC rates but I assume it's in the vicinity)
1973-74 (48% - 645 days) - 7%
1976-78 (19% - 531 days) - 8%
1980-82 (27% - 622 days) - 12%
2000-02 (49% - 929 days) - 6%
2007-09 (57% - 517 days) - 5%
Today - 3%
Is this plan conditional on rates also? Or how bad CNBC says things really are? It's rough taking from cash flow to pay off the loan while most of your early investments suffer massive losses. Even near the bottom, it found more crazy bottoms. The news would salivate with messages of imminent doom if it went down 4% today.
https://web.archive.org/web/20090306090921/http://finance.yahoo.com:80/
It's not for me, but a system that involves leverage over time makes sense to me as a long term business or investing plan because you are not subject to short term whims ruining your plans. If I did this in 2008, and then got laid off (or was retired in the first place) I might do too much damage to recover. The idea is nice to throw around but the details always matter. Always, the problem with higher risk plans is your ability to execute.
Absolutely, it’s conditional on rates because the more you’re paying the bank for access to those funds, the more return you’re going to need from your investments to make it worth it.
Another factor which has the potential to change your ultimate return is the duration of the recession. If the mArket recovers much faster, then you’ll pay less in interest on your HEL.
I’ve never considered buying on margin and only have contemplated a home equity loan with a fixed rate so it eliminates any variables relating to the cost of accessing that capital. If I ever execute this plan, I think I would take the longest term that was available with a fixed rate to minimize the impact on my monthly cash flow. But perhaps if a shorter term offered a significant reduction in the interest rate, it may be worth running some calcs to see how big of an impact it would have on your overall return and then of course making 99% sure you’re cash flow can support the payments.
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HELOCs were killed in the Great Recession. I wouldn't relying on borrowing to try and time the markets during a downturn. This is a horrible idea.
Your house is working for you even when paid off. A paid off home has some capital appreciation but it also gives you cash flow return by having a reduced housing expense which allows you to invest the extra in the market --> your previous mortgage payment can now be invested.
Edited to add: one of the dangers of a margin loan is that it is callable by the lender at any time ( and they certainly will if the asset vue decreases). HELOCs are also callable. This is the major advantage of a mortgage, which is not callable.
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HELOCs were killed in the Great Recession. I wouldn't relying on borrowing to try and time the markets during a downturn. This is a horrible idea.
Your house is working for you even when paid off. A paid off home has some capital appreciation but it also gives you cash flow return by having a reduced housing expense which allows you to invest the extra in the market --> your previous mortgage payment can now be invested.
Edited to add: one of the dangers of a margin loan is that it is callable by the lender at any time ( and they certainly will if the asset vue decreases). HELOCs are also callable. This is the major advantage of a mortgage, which is not callable.
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I never advocated for using a HELOC. My thinking was to use a Home Equity Loan which provides the capital in a lump sum payment with a fixed, defined set of repayment terms. This eliminates any variables with accessing capital to invest.
Furthermore, is it timing the market? Absolutely, but in a way that only has upside to it. You use the most recent market high as your fixed point and only invest if/when the market drops 30% or more. If it doesn’t drop that far, then you simply don’t invest and pay off the HEL.
If you believe that “the market always goes up”, then how are you going to lose by investing with this approach?
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HELOCs were killed in the Great Recession. I wouldn't relying on borrowing to try and time the markets during a downturn. This is a horrible idea.
Your house is working for you even when paid off. A paid off home has some capital appreciation but it also gives you cash flow return by having a reduced housing expense which allows you to invest the extra in the market --> your previous mortgage payment can now be invested.
Edited to add: one of the dangers of a margin loan is that it is callable by the lender at any time ( and they certainly will if the asset vue decreases). HELOCs are also callable. This is the major advantage of a mortgage, which is not callable.
Sent from my SM-G950U using Tapatalk
I never advocated for using a HELOC. My thinking was to use a Home Equity Loan which provides the capital in a lump sum payment with a fixed, defined set of repayment terms. This eliminates any variables with accessing capital to invest.
Furthermore, is it timing the market? Absolutely, but in a way that only has upside to it. You use the most recent market high as your fixed point and only invest if/when the market drops 30% or more. If it doesn’t drop that far, then you simply don’t invest and pay off the HEL.
If you believe that “the market always goes up”, then how are you going to lose by investing with this approach?
And if you invested in a false bottom and it takes 10 years for the market to recover are you ok with that as you have to pay back the loan?
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How do you plan to guarantee your home will have enough equity to borrow against in a recession? How do know now what interest rates will be then?
It happened to thousands of homeowners during the Great Recession. Tens of thousands, perhaps even hundreds of thousands of homes or more were under water. They had no equity as far as the banks were concerned.
Having a mortgage and plenty of money in investments with varying degrees of liquidity is the key to survival in a prolonged downturn. Houses will always need supplemental funds for taxes, insurance and upkeep, even the paid off ones.
And if you think you can "make up" the savings by starting to invest after you pay off your mortgage, please know that is a losing proposition every time. Compound interest is literally money for no work. The sooner you have money compounding on your behalf, the faster and easier you're going to get to FIRE.
I agree in principle with your attorney. I love that you are thinking deeply about the lessons s/he is trying to teach you. However, you seem to be missing the point. Talk to them some more and really, really listen. Ask questions until you understand. Your future self will be so grateful to now you.
PS - All of the above assumes you are discussing property in the United States. If not, this message will self-destruct in sixty seconds ;-)
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The basic principle being discussed here is a leveraged investment... should you borrow against your house to buy into a risky, fluctuating stock market?
For me, the answer is pretty clearly no, not unless I can afford the risk... like if I had a recession-proof job with enough money to pay off the loan, or a spouse, or if I had was already FIRE. But even then, I don't know if I'd take on that risk and headache, just to have a bigger number in the bank.
I'd say, steady as she goes. Personally I am building up a cash buffer to dump into the market when I feel like it has dropped enough, however I would not consider taking on debt to buy stocks. It's just too risky when dollar-cost averaging and asset allocation give you 7% ROI each year and no headaches.
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How do you plan to guarantee your home will have enough equity to borrow against in a recession? How do know now what interest rates will be then?
It happened to thousands of homeowners during the Great Recession. Tens of thousands, perhaps even hundreds of thousands of homes or more were under water. They had no equity as far as the banks were concerned.
Having a mortgage and plenty of money in investments with varying degrees of liquidity is the key to survival in a prolonged downturn. Houses will always need supplemental funds for taxes, insurance and upkeep, even the paid off ones.
And if you think you can "make up" the savings by starting to invest after you pay off your mortgage, please know that is a losing proposition every time. Compound interest is literally money for no work. The sooner you have money compounding on your behalf, the faster and easier you're going to get to FIRE.
I agree in principle with your attorney. I love that you are thinking deeply about the lessons s/he is trying to teach you. However, you seem to be missing the point. Talk to them some more and really, really listen. Ask questions until you understand. Your future self will be so grateful to now you.
PS - All of the above assumes you are discussing property in the United States. If not, this message will self-destruct in sixty seconds ;-)
You may not know any of the above. But if it happens. And I'd say it's likely. If a recession happens in the next few years. Money will flock to bonds as it always has and yields will drop. We don't have to have a housing recession like 2008. Sure prices will drop some in a recession. But this is one way you can market time with an HEL that makes perfect sense. I wouldn't be too fixated on the amount the market falls more looking for the drop in interest rates. If you can pull money out of an asset that appreciates typically at 3% and put it in an asset that's depreciated even 10-15% and typically grows at 10% annually. An HEL or second mortgage can be fixed for 30 years and if this perfect storm happens why not jump in.
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Yeah taking a risky practice (market timing), layering on a risky way of investing (leveraging), and using a poor financial product to do it (Heloc loan) seems not worth it.
You know. No shade OP but I think I understand why credit cycles happen. People look at the performance of a bull market and think using debt to get rich is a good idea. Almost every economist and financial expert I've read so far (Shiller, Dalio, Buffet, etc. etc.) specifically points to this behavior as the precursor of a recession.
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Yeah taking a risky practice (market timing), layering on a risky way of investing (leveraging), and using a poor financial product to do it (Heloc loan) seems not worth it.
You know. No shade OP but I think I understand why credit cycles happen. People look at the performance of a bull market and think using debt to get rich is a good idea. Almost every economist and financial expert I've read so far (Shiller, Dalio, Buffet, etc. etc.) specifically point to this behavior as the precursor of a recession.
1. a mortgage for leverage is not risky
2. the OP corrected themselves and switched to an HEL which isnt risky its the same as a mortgage if you set it up properly.
3. Its not really market timing - it is to some level but you have calculated controlled variables and a future assumption (which we all plan to live on th 4% rule) that if that fails forever doesnt matter whether you had the mortgage or not.
if the events the OP describes as happening happen this is no different than what everyone taking out a mortgage right now and holding it to term is doing - all we're doing here is just refinancing or extending the term of our mortgage at another opportune time in the market to do so. same logic applies - why keep little green soldiers tied up in an asset when the could be working for you.
you yourself had a thread about 100% stocks and using a 4% SWR but you cant wrap your head around taking out some fixed interest debt for 30 year at 5% or less to invest in the market. As i stated in the other thread you have a severe lack of actual knowledge of how all of this has worked in the past and why the 4% SWR works and need some education or you're likely doomed to failure no matter what plan you choose to follow.
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Yeah taking a risky practice (market timing), layering on a risky way of investing (leveraging), and using a poor financial product to do it (Heloc loan) seems not worth it.
You know. No shade OP but I think I understand why credit cycles happen. People look at the performance of a bull market and think using debt to get rich is a good idea. Almost every economist and financial expert I've read so far (Shiller, Dalio, Buffet, etc. etc.) specifically point to this behavior as the precursor of a recession.
1. a mortgage for leverage is not risky
2. the OP corrected themselves and switched to an HEL which isnt risky its the same as a mortgage if you set it up properly.
3. Its not really market timing - it is to some level but you have calculated controlled variables and a future assumption (which we all plan to live on th 4% rule) that if that fails forever doesnt matter whether you had the mortgage or not.
if the events the OP describes as happening happen this is no different than what everyone taking out a mortgage right now and holding it to term is doing - all we're doing here is just refinancing or extending the term of our mortgage at another opportune time in the market to do so. same logic applies - why keep little green soldiers tied up in an asset when the could be working for you.
you yourself had a thread about 100% stocks and using a 4% SWR but you cant wrap your head around taking out some fixed interest debt for 30 year at 5% or less to invest in the market. As i stated in the other thread you have a severe lack of actual knowledge of how all of this has worked in the past and why the 4% SWR works and need some education or you're likely doomed to failure no matter what plan you choose to follow.
Boarder42, you completely understand the concept.
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Yeah taking a risky practice (market timing), layering on a risky way of investing (leveraging), and using a poor financial product to do it (Heloc loan) seems not worth it.
You know. No shade OP but I think I understand why credit cycles happen. People look at the performance of a bull market and think using debt to get rich is a good idea. Almost every economist and financial expert I've read so far (Shiller, Dalio, Buffet, etc. etc.) specifically points to this behavior as the precursor of a recession.
You are waaaaay off. Did you even read my original post??? I'm talking about recognizing a terrific opportunity to enter the market (when the market is CURRENTLY in a recession and down 30%+) and leveraging an asset to capitalize on that opportunity.
I'm not at all advocating for using debt to invest in the market PRIOR to a recession. I agree with you that people that are currently using leverage to enter the market today are in for a rude awakening when the market recedes. Also, as for credit cycles, they happen because people use credit far beyond their ability to repay those in worst case scenarios. If you read my original post, you'll see that I have $1,500/month in free cash flow and hypothesized about utilizing $50,000 leverage with payments that would be less than 25% of my available cash flow which makes me very capable of making the payments and not defaulting. What if I told you I had $150,000 in equity available in my home but am only considering utilizing $50,000 of it? Someone taking the whole $150,000 and not having the cash flow to support those payments if the market turns is the reason credit cycles happen.....you have to know your limitations & make smart decisions.
The whole reason I made the original post was to see if there was a fundamental flaw that I may be missing. So far, I haven't had one brought up that has dissuaded me. Some of the comments seem like people aren't understanding the concept.
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I have kicked this idea around myself and would probably do it in a 30% recession. I have a heloc available and can lock the rate on any draw over a 5-20 year period, effectively making it a HEL. To me this is just buying up front, at a discount, something that I would be buying incrementally anyway in the future. Instead of small investments for 5 or 10 years, it would be a large chunk now and using that same money to pay the loan back.
ETA: This assumes a low interest rate is available and the heloc is available during the recession.
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to me the two biggest variables here are amount of home equity and what the new interest rates are - at that point anything over a 10% drop is likely worth the arbitrage even if it continues down. and if it continues down rates will contine down so you can refi maybe everything. if you're waiting for 30% it may never come and you may miss the boat to cash out some equity and buy stocks on sale at a low fixed rate.
and really a drop isnt necessary if there is enough equity in the home that it makes sense to pull money out at whatever the current rate is to cover the costs of the change this is no different than just carrying a mortgage to term. or creating a perpetual mortgage.
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What would have to happen for your plan to be a disaster? How likely are those events? Are they tied to each other?
A recession, a house price collapse and a wave of redundancies are not independent events: the presence of one makes it a reasonable bet that the others will also be present. If you lose your job and need to move in a recession, just as your equity is being vapourised, then you are fucked with a capital F. What if you buy in at a 30% drop only to see it continue down to 50% and remain stagnant during a Japanese-style lost decade? What if you have to move states to find work, and crystallise your equity losses? What if a house price collapse drives your equity from 40% to 20% and your bank adds a percentage point to your interest rate as market returns freeze up?
People aren't wary of leveraged investment because it's trendy to be wary of leveraged investment; they're wary of leveraged investment because it can turn a disappointment into a catastrophe. There's a thread elsewhere on the net (I can't for the life of me remember where), in which an extremely intelligent person devised an extremely carefully backtested plan for leveraged martingale-style investment, and lost absolutely everything - we're talking mid six figures gone up in smoke and reduced to zero over the course of a year or so.
If you think you've devised a safe way to multiply your returns with no additional risk, there are two possibilities: one is that you are smarter than the market, and the other is that you haven't properly accounted for the risks.
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What would have to happen for your plan to be a disaster? How likely are those events? Are they tied to each other?
A recession, a house price collapse and a wave of redundancies are not independent events: the presence of one makes it a reasonable bet that the others will also be present. If you lose your job and need to move in a recession, just as your equity is being vapourised, then you are fucked with a capital F. What if you buy in at a 30% drop only to see it continue down to 50% and remain stagnant during a Japanese-style lost decade? What if you have to move states to find work, and crystallise your equity losses? What if a house price collapse drives your equity from 40% to 20% and your bank adds a percentage point to your interest rate as market returns freeze up?
People aren't wary of leveraged investment because it's trendy to be wary of leveraged investment; they're wary of leveraged investment because it can turn a disappointment into a catastrophe. There's a thread elsewhere on the net (I can't for the life of me remember where), in which an extremely intelligent person devised an extremely carefully backtested plan for leveraged martingale-style investment, and lost absolutely everything - we're talking mid six figures gone up in smoke and reduced to zero over the course of a year or so.
If you think you've devised a safe way to multiply your returns with no additional risk, there are two possibilities: one is that you are smarter than the market, and the other is that you haven't properly accounted for the risks.
if you plan to hold a mortgage to term this plan is not substatially different. and mortgage leverage is not even remotely the same as marginal leverage.
did you actually read the idea and understand it?
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What would have to happen for your plan to be a disaster? How likely are those events? Are they tied to each other?
A recession, a house price collapse and a wave of redundancies are not independent events: the presence of one makes it a reasonable bet that the others will also be present. If you lose your job and need to move in a recession, just as your equity is being vapourised, then you are fucked with a capital F. What if you buy in at a 30% drop only to see it continue down to 50% and remain stagnant during a Japanese-style lost decade? What if you have to move states to find work, and crystallise your equity losses? What if a house price collapse drives your equity from 40% to 20% and your bank adds a percentage point to your interest rate as market returns freeze up?
People aren't wary of leveraged investment because it's trendy to be wary of leveraged investment; they're wary of leveraged investment because it can turn a disappointment into a catastrophe. There's a thread elsewhere on the net (I can't for the life of me remember where), in which an extremely intelligent person devised an extremely carefully backtested plan for leveraged martingale-style investment, and lost absolutely everything - we're talking mid six figures gone up in smoke and reduced to zero over the course of a year or so.
If you think you've devised a safe way to multiply your returns with no additional risk, there are two possibilities: one is that you are smarter than the market, and the other is that you haven't properly accounted for the risks.
This is exactly why I posted the idea on here; to find out if there are risks that I haven't accounted for.
I'm not going to counter all of the "what-if" scenarios that you've brought up but I appreciate your contributions to this thought experiment and I'll take those into consideration. I will bring up the point you made though about the potential for a bank to increase the interest rate; you DO NOT use any type of variable rate Home Equity Loan. You only utilize leverage that has a FIXED interest rate. The whole concept of this approach is limiting risk by locking in various normally fluctuating variables.
The one thing that I did think of and does give me pause somewhat is the point you made about the Japanese economy and how they have struggled to recover for at least a decade. With the US economy being so much larger, I'm not sure we can compare the Japanese economy to the American economy though.
One other risk that I'm considering is how the US national debt may factor into the next/a future recession. That may be a wildcard that bucks historical norms?
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You don't consider rising interest rates to be a wild card?
I remember being thrilled to get a mortgage (with excellent credit) at "only" 7% in 1996. How does a rate like that skew this proposed plan?
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You don't consider rising interest rates to be a wild card?
I remember being thrilled to get a mortgage (with excellent credit) at "only" 7% in 1996. How does a rate like that skew this proposed plan?
All of my modeling has been done using 5.75% fixed rate. I wouldn't consider it if rates were higher than that. As another member posted however, during a recession, the rates tend to fall so if it's 5.75% or less, then it isn't a risk.
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So this may help visualize what my original post is talking about. I went back and looked at historical stock prices for VTI and used actual data from the Great Recession to see what would have happened if I had executed this plan back in 2008-2009. You can see the results below. Even using $50,000 and starting to deploy capital at a 30% decline, I still missed the bottom since it hit 55% on March 9, 2009 but waiting until at least a 30% drop provides enough of an upside in my opinion.
Some of the things that would positively change the ultimate rate of return is:
-Waiting to deploy capital until a bigger percentage drop (start deploying at 40% instead of 30%). But then you run the risk of maybe the market only dropping 40 or 45% and you never get your capital fully deployed.
-A quicker recovery from the recession (I would have made 27 payments on the HEL during the Great Recession. If the market recovers in 12 months instead, I would have paid way less in interest on the HEL).
-Lower interest rate on the HEL would improve returns.
Of course, it's easy to look back and see when you should have deployed capital but I still think there's opportunity during future recessions.
Looking at Scenario number 2 again, I think I may have calculated the capital gains tax wrong and actually paid it twice which would actually result in the net profit being higher in that scenario. Plus, in both scenarios, I subtracted the P&I payments that you would have made on the HEL just to see what you truly would net once being made whole. If your cash flow can support the HEL payments, when you go to cash out in the future, you may just consider the total amount profit.
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So out of curiosity, I decided to model if instead of making the payment on the HEL, I instead just used that $351 and bought VTI on the first of the month for the duration of when I would have had the HEL.
Here are the results but to compare apples to apples, I probably should have subtracted the original capital invested to see what the actual gains would be ($23,465) to compare to the first model.
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Interactive Brokers offers margin loans for around 1.7%. I've decided to go without an emergency fund and just borrow from my broker in the event of a cash need.
Margin is always dangerous, whether its in the form of a HELOC or broker loan. It can be done successfully but it is important to have reasonable position sizing and a hedge.
1.5% if you borrow in EUR or CHF, 3.4% for USD now. Still cheap.
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Yeah taking a risky practice (market timing), layering on a risky way of investing (leveraging), and using a poor financial product to do it (Heloc loan) seems not worth it.
You know. No shade OP but I think I understand why credit cycles happen. People look at the performance of a bull market and think using debt to get rich is a good idea. Almost every economist and financial expert I've read so far (Shiller, Dalio, Buffet, etc. etc.) specifically points to this behavior as the precursor of a recession.
You are waaaaay off. Did you even read my original post??? I'm talking about recognizing a terrific opportunity to enter the market (when the market is CURRENTLY in a recession and down 30%+) and leveraging an asset to capitalize on that opportunity.
I'm not at all advocating for using debt to invest in the market PRIOR to a recession. I agree with you that people that are currently using leverage to enter the market today are in for a rude awakening when the market recedes. Also, as for credit cycles, they happen because people use credit far beyond their ability to repay those in worst case scenarios. If you read my original post, you'll see that I have $1,500/month in free cash flow and hypothesized about utilizing $50,000 leverage with payments that would be less than 25% of my available cash flow which makes me very capable of making the payments and not defaulting. What if I told you I had $150,000 in equity available in my home but am only considering utilizing $50,000 of it? Someone taking the whole $150,000 and not having the cash flow to support those payments if the market turns is the reason credit cycles happen.....you have to know your limitations & make smart decisions.
The whole reason I made the original post was to see if there was a fundamental flaw that I may be missing. So far, I haven't had one brought up that has dissuaded me. Some of the comments seem like people aren't understanding the concept.
Except you don't know that this isn't a recession with perfect certainty, and the model you are proposing is simple.
I'm not saying it can't work, its just risky.
To time the market, you will need a very very powerful model. What makes you think that performing a simple average of market dips such such ? And what justifies the confidence you have that this can be done with enough accuracy to make it worthwile.
I mean if you could make proper models that do such a thing, just be a quant, triple your income, and then throw money in reasonable investments.
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Yeah taking a risky practice (market timing), layering on a risky way of investing (leveraging), and using a poor financial product to do it (Heloc loan) seems not worth it.
You know. No shade OP but I think I understand why credit cycles happen. People look at the performance of a bull market and think using debt to get rich is a good idea. Almost every economist and financial expert I've read so far (Shiller, Dalio, Buffet, etc. etc.) specifically points to this behavior as the precursor of a recession.
You are waaaaay off. Did you even read my original post??? I'm talking about recognizing a terrific opportunity to enter the market (when the market is CURRENTLY in a recession and down 30%+) and leveraging an asset to capitalize on that opportunity.
I'm not at all advocating for using debt to invest in the market PRIOR to a recession. I agree with you that people that are currently using leverage to enter the market today are in for a rude awakening when the market recedes. Also, as for credit cycles, they happen because people use credit far beyond their ability to repay those in worst case scenarios. If you read my original post, you'll see that I have $1,500/month in free cash flow and hypothesized about utilizing $50,000 leverage with payments that would be less than 25% of my available cash flow which makes me very capable of making the payments and not defaulting. What if I told you I had $150,000 in equity available in my home but am only considering utilizing $50,000 of it? Someone taking the whole $150,000 and not having the cash flow to support those payments if the market turns is the reason credit cycles happen.....you have to know your limitations & make smart decisions.
The whole reason I made the original post was to see if there was a fundamental flaw that I may be missing. So far, I haven't had one brought up that has dissuaded me. Some of the comments seem like people aren't understanding the concept.
Except you don't know that this isn't a recession with perfect certainty, and the model you are proposing is simple.
I'm not saying it can't work, its just risky.
To time the market, you will need a very very powerful model. What makes you think that performing a simple average of market dips such such ? And what justifies the confidence you have that this can be done with enough accuracy to make it worthwile.
I mean if you could make proper models that do such a thing, just be a quant, triple your income, and then throw money in reasonable investments.
How do you define a recession? All I care about is if the market is dipping a significant percentage. If you believe that "the market always goes up", then when the market dips significantly, it presents an opportunity to buy in (with money outside of the market) and wait for it to recover and take your new capital along with it.
The confidence that I have that it can be done with accuracy IS simple. When the news starts reporting that the market is down 5% or 10% or 15%, then I'll start paying attention much more closely. When the market starts declining, you look back to its most recent high and that gives you your concrete starting point to base all of your calculations off of.
For instance, let's say hypothetically at some point in the future, the market hit an all-time high of 31,284 on Nov. 4, 2020 and then for the next couple of weeks, the market does what it does (up, down, up, down) but never goes higher than the 31,284. Suddenly, you hear that the market is tanking and closed down 8%. Is this just a correction or a recession? Who knows? It could go down a couple more percent or it could hit new highs. When you look back a couple weeks, you see the highest it hit was 31,284 and you use that number as your benchmark. Now, you simply calculate what a 30% (or whatever number you want to invest at) drop in the market would be from that all-time high and you come up with 21,899. If over the next couple weeks, the market continues to go up and down but more downward towards that 21,899, I would be thinking about getting my HEL and ready to deploy. I'm not going to sit and watch the market constantly, so I'll check out what the price of VTI was on Nov. 4, 2020, use that number as my benchmark and set up a limit order to fill $10,000 worth if it goes down to the 30% decline number that I calculated. If that order fills, I'll immediately set up another limit order to fill $10,000 more if it goes down to 35% from the market high. Etc. Etc.
If the market goes down 30% and then never goes down to fill my limit order at 35% then I'm sitting on $40,000 in my savings from the HEL and I have $10,000 that will at the very least return 30% when the market recovers (because remember, we believe that the market always goes up) and when it does, I cash out my original $10,000, add it to the $40,000 sitting in my savings and pay off the HEL.
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It doesn't matter if it's a recession the proposed idea here works regardless of a market drop or not historically. If you can get a low fixed rate on your home equity and cash out refi or get an HEL. This is no different than holding a mortgage. If you can couple that with ANY double digits decrease in the markets even better.
You don't need models you don't need some advanced predictive data. And depending on how far the market has fallen a higher rate may make sense. All of which you have data for. The markets will recover.
It likely can't be done consistently. It's taking advantage of a low interest rate environment. Like most smart people have been doing the last 8 years.
There is little risk here just like holding a mortgage. Your only risk is sorr in FIRE
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Yeah taking a risky practice (market timing), layering on a risky way of investing (leveraging), and using a poor financial product to do it (Heloc loan) seems not worth it.
You know. No shade OP but I think I understand why credit cycles happen. People look at the performance of a bull market and think using debt to get rich is a good idea. Almost every economist and financial expert I've read so far (Shiller, Dalio, Buffet, etc. etc.) specifically points to this behavior as the precursor of a recession.
You are waaaaay off. Did you even read my original post??? I'm talking about recognizing a terrific opportunity to enter the market (when the market is CURRENTLY in a recession and down 30%+) and leveraging an asset to capitalize on that opportunity.
I'm not at all advocating for using debt to invest in the market PRIOR to a recession. I agree with you that people that are currently using leverage to enter the market today are in for a rude awakening when the market recedes. Also, as for credit cycles, they happen because people use credit far beyond their ability to repay those in worst case scenarios. If you read my original post, you'll see that I have $1,500/month in free cash flow and hypothesized about utilizing $50,000 leverage with payments that would be less than 25% of my available cash flow which makes me very capable of making the payments and not defaulting. What if I told you I had $150,000 in equity available in my home but am only considering utilizing $50,000 of it? Someone taking the whole $150,000 and not having the cash flow to support those payments if the market turns is the reason credit cycles happen.....you have to know your limitations & make smart decisions.
The whole reason I made the original post was to see if there was a fundamental flaw that I may be missing. So far, I haven't had one brought up that has dissuaded me. Some of the comments seem like people aren't understanding the concept.
Except you don't know that this isn't a recession with perfect certainty, and the model you are proposing is simple.
I'm not saying it can't work, its just risky.
To time the market, you will need a very very powerful model. What makes you think that performing a simple average of market dips such such ? And what justifies the confidence you have that this can be done with enough accuracy to make it worthwile.
I mean if you could make proper models that do such a thing, just be a quant, triple your income, and then throw money in reasonable investments.
How do you define a recession? All I care about is if the market is dipping a significant percentage. If you believe that "the market always goes up", then when the market dips significantly, it presents an opportunity to buy in (with money outside of the market) and wait for it to recover and take your new capital along with it.
The confidence that I have that it can be done with accuracy IS simple. When the news starts reporting that the market is down 5% or 10% or 15%, then I'll start paying attention much more closely. When the market starts declining, you look back to its most recent high and that gives you your concrete starting point to base all of your calculations off of.
For instance, let's say hypothetically at some point in the future, the market hit an all-time high of 31,284 on Nov. 4, 2020 and then for the next couple of weeks, the market does what it does (up, down, up, down) but never goes higher than the 31,284. Suddenly, you hear that the market is tanking and closed down 8%. Is this just a correction or a recession? Who knows? It could go down a couple more percent or it could hit new highs. When you look back a couple weeks, you see the highest it hit was 31,284 and you use that number as your benchmark. Now, you simply calculate what a 30% (or whatever number you want to invest at) drop in the market would be from that all-time high and you come up with 21,899. If over the next couple weeks, the market continues to go up and down but more downward towards that 21,899, I would be thinking about getting my HEL and ready to deploy. I'm not going to sit and watch the market constantly, so I'll check out what the price of VTI was on Nov. 4, 2020, use that number as my benchmark and set up a limit order to fill $10,000 worth if it goes down to the 30% decline number that I calculated. If that order fills, I'll immediately set up another limit order to fill $10,000 more if it goes down to 35% from the market high. Etc. Etc.
If the market goes down 30% and then never goes down to fill my limit order at 35% then I'm sitting on $40,000 in my savings from the HEL and I have $10,000 that will at the very least return 30% when the market recovers (because remember, we believe that the market always goes up) and when it does, I cash out my original $10,000, add it to the $40,000 sitting in my savings and pay off the HEL.
Except you don't know when, exactly, the market will return. And all of this time you are paying for the money you have borrowed. IF the market stays down long enough, then the amount you have paid on the credit adds up and doesn't make it as worth it had you just simply invested in the market in the first place (or some other commodity like gold). Remember you have to make enough to cover both the amount you borrowed, any interest, and the amount you would have made had you not done this and invested your money normally or in an inflation hedge.
This is just market timing. Except the dips and peaks are worse. Which means you need to be more accurate with your level of timing to make it work. Given that you don't have any kind of method of doing this accurately. I don't see why you think it is possible. Or rather, any more possible than any other person that has the opportunity to do it.
Remember there are a lot of smart people in the stock market, with a lot more education, and a lot more access to data that you don't have. And strategies like this are not novel. IT is not a zero sum game (since the economy creates value over time), but you are playing against people that are way better than you. Bear that in mind.
You essentially believe you can exploit a market inefficiency that you haven't properly researched, and you want to do it with money that is not yours. So good luck with that.
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Yeah taking a risky practice (market timing), layering on a risky way of investing (leveraging), and using a poor financial product to do it (Heloc loan) seems not worth it.
You know. No shade OP but I think I understand why credit cycles happen. People look at the performance of a bull market and think using debt to get rich is a good idea. Almost every economist and financial expert I've read so far (Shiller, Dalio, Buffet, etc. etc.) specifically points to this behavior as the precursor of a recession.
You are waaaaay off. Did you even read my original post??? I'm talking about recognizing a terrific opportunity to enter the market (when the market is CURRENTLY in a recession and down 30%+) and leveraging an asset to capitalize on that opportunity.
I'm not at all advocating for using debt to invest in the market PRIOR to a recession. I agree with you that people that are currently using leverage to enter the market today are in for a rude awakening when the market recedes. Also, as for credit cycles, they happen because people use credit far beyond their ability to repay those in worst case scenarios. If you read my original post, you'll see that I have $1,500/month in free cash flow and hypothesized about utilizing $50,000 leverage with payments that would be less than 25% of my available cash flow which makes me very capable of making the payments and not defaulting. What if I told you I had $150,000 in equity available in my home but am only considering utilizing $50,000 of it? Someone taking the whole $150,000 and not having the cash flow to support those payments if the market turns is the reason credit cycles happen.....you have to know your limitations & make smart decisions.
The whole reason I made the original post was to see if there was a fundamental flaw that I may be missing. So far, I haven't had one brought up that has dissuaded me. Some of the comments seem like people aren't understanding the concept.
Except you don't know that this isn't a recession with perfect certainty, and the model you are proposing is simple.
I'm not saying it can't work, its just risky.
To time the market, you will need a very very powerful model. What makes you think that performing a simple average of market dips such such ? And what justifies the confidence you have that this can be done with enough accuracy to make it worthwile.
I mean if you could make proper models that do such a thing, just be a quant, triple your income, and then throw money in reasonable investments.
How do you define a recession? All I care about is if the market is dipping a significant percentage. If you believe that "the market always goes up", then when the market dips significantly, it presents an opportunity to buy in (with money outside of the market) and wait for it to recover and take your new capital along with it.
The confidence that I have that it can be done with accuracy IS simple. When the news starts reporting that the market is down 5% or 10% or 15%, then I'll start paying attention much more closely. When the market starts declining, you look back to its most recent high and that gives you your concrete starting point to base all of your calculations off of.
For instance, let's say hypothetically at some point in the future, the market hit an all-time high of 31,284 on Nov. 4, 2020 and then for the next couple of weeks, the market does what it does (up, down, up, down) but never goes higher than the 31,284. Suddenly, you hear that the market is tanking and closed down 8%. Is this just a correction or a recession? Who knows? It could go down a couple more percent or it could hit new highs. When you look back a couple weeks, you see the highest it hit was 31,284 and you use that number as your benchmark. Now, you simply calculate what a 30% (or whatever number you want to invest at) drop in the market would be from that all-time high and you come up with 21,899. If over the next couple weeks, the market continues to go up and down but more downward towards that 21,899, I would be thinking about getting my HEL and ready to deploy. I'm not going to sit and watch the market constantly, so I'll check out what the price of VTI was on Nov. 4, 2020, use that number as my benchmark and set up a limit order to fill $10,000 worth if it goes down to the 30% decline number that I calculated. If that order fills, I'll immediately set up another limit order to fill $10,000 more if it goes down to 35% from the market high. Etc. Etc.
If the market goes down 30% and then never goes down to fill my limit order at 35% then I'm sitting on $40,000 in my savings from the HEL and I have $10,000 that will at the very least return 30% when the market recovers (because remember, we believe that the market always goes up) and when it does, I cash out my original $10,000, add it to the $40,000 sitting in my savings and pay off the HEL.
Except you don't know when, exactly, the market will return. And all of this time you are paying for the money you have borrowed. IF the market stays down long enough, then the amount you have paid on the credit adds up and doesn't make it as worth it had you just simply invested in the market in the first place (or some other commodity like gold). Remember you have to make enough to cover both the amount you borrowed, any interest, and the amount you would have made had you not done this and invested your money normally or in an inflation hedge.
This is just market timing. Except the dips and peaks are worse. Which means you need to be more accurate with your level of timing to make it work. Given that you don't have any kind of method of doing this accurately. I don't see why you think it is possible. Or rather, any more possible than any other person that has the opportunity to do it.
Remember there are a lot of smart people in the stock market, with a lot more education, and a lot more access to data that you don't have. And strategies like this are not novel. IT is not a zero sum game (since the economy creates value over time), but you are playing against people that are way better than you. Bear that in mind.
You essentially believe you can exploit a market inefficiency that you haven't properly researched, and you want to do it with money that is not yours. So good luck with that.
Listen, I’m all for educated debate but this response CLEARLY illustrates that you either don’t read my replies or you don’t understand them since I’ve addressed many of your points in prior posts. So with that, I wish you the best in your investing future but will no longer be responding to your comments.
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Simply put. The extra money you have is paying the interest on the loan and could have otherwise been used to go into the stock market itself. You are paying an opportunity cost. And the longer the market is down, the more you pay, and the more you lose.
Add in that, if the market goes DOWN, during the term of the loan, Any additional payment you have made is effectively to have bought shares at teh cost basis of whenever you took the loan out. So you also have the opportunity cost of buying cheaper shares.
What you ideally want is for the market to go down and immediately go back up. And your ability to predict when this happens is as good as anyone's.
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There's a thread elsewhere on the net (I can't for the life of me remember where), in which an extremely intelligent person devised an extremely carefully backtested plan for leveraged martingale-style investment, and lost absolutely everything - we're talking mid six figures gone up in smoke and reduced to zero over the course of a year or so.
https://www.bogleheads.org/forum/viewtopic.php?t=5934
This one. One of the best investing threads, like a Greek tragedy or a horror movie, where countless sages prophesied the future, and all the observers can see what is about to happen, but the hapless OP walks into it and is slaughtered (but shortly after discovered the FI community and achieved a happy ending with an unsurprising if remarkably low stock exposure).
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There's a thread elsewhere on the net (I can't for the life of me remember where), in which an extremely intelligent person devised an extremely carefully backtested plan for leveraged martingale-style investment, and lost absolutely everything - we're talking mid six figures gone up in smoke and reduced to zero over the course of a year or so.
https://www.bogleheads.org/forum/viewtopic.php?t=5934
This one. One of the best investing threads, like a Greek tragedy or a horror movie, where countless sages prophesied the future, and all the observers can see what is about to happen, but the hapless OP walks into it and is slaughtered (but shortly after discovered the FI community and achieved a happy ending with an unsurprising if remarkably low stock exposure).
Doesn't take long to see that this guy invested a lot of money late in a bull market. I didn't bother to read his cunning plan. Investing on margin in a mature bull market is highly risky and the opposite of what the OP is suggesting.
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Interactive Brokers offers margin loans for around 1.7%. I've decided to go without an emergency fund and just borrow from my broker in the event of a cash need.
Margin is always dangerous, whether its in the form of a HELOC or broker loan. It can be done successfully but it is important to have reasonable position sizing and a hedge.
1.5% if you borrow in EUR or CHF, 3.4% for USD now. Still cheap.
Borrowing in a separate currency is very, very risky. I knew people who switched euro mortgages to Swiss francs years ago, to avail of lower interest rates: one morning the outstanding balance on their loans jumped 33%, as the Swiss government gave up on maintaining parity. Currency risk should never be ignored; it can have a serious long-term effect, even before considering unexpected large movements.
On the broader question of whether this is effectively the same as mortgage borrowing: it isn't, not by a long shot. While they might be the same basic class of decision, the risk profiles are wildly different, and the risk profile is exactly why people are arguing that this could be a bad idea. This is deliberately reducing the amount of equity you hold in your home right as the market squeezes the exact same number and the chances of you needing to sell are maximised.
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Simply put. The extra money you have is paying the interest on the loan and could have otherwise been used to go into the stock market itself. You are paying an opportunity cost. And the longer the market is down, the more you pay, and the more you lose.
Add in that, if the market goes DOWN, during the term of the loan, Any additional payment you have made is effectively to have bought shares at teh cost basis of whenever you took the loan out. So you also have the opportunity cost of buying cheaper shares.
What you ideally want is for the market to go down and immediately go back up. And your ability to predict when this happens is as good as anyone's.
Nope you still don't get it
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There's a thread elsewhere on the net (I can't for the life of me remember where), in which an extremely intelligent person devised an extremely carefully backtested plan for leveraged martingale-style investment, and lost absolutely everything - we're talking mid six figures gone up in smoke and reduced to zero over the course of a year or so.
https://www.bogleheads.org/forum/viewtopic.php?t=5934
This one. One of the best investing threads, like a Greek tragedy or a horror movie, where countless sages prophesied the future, and all the observers can see what is about to happen, but the hapless OP walks into it and is slaughtered (but shortly after discovered the FI community and achieved a happy ending with an unsurprising if remarkably low stock exposure).
Doesn't take long to see that this guy invested a lot of money late in a bull market. I didn't bother to read his cunning plan. Investing on margin in a mature bull market is highly risky and the opposite of what the OP is suggesting.
Hindsite is 20/20. We have a bias to think we could have know what would have happen had we been in this situation at this time, but we don't. Similiarly we don't truly know what will happen in todays market. Remember even top hedge funds like bridgewater and berkshire make 5% over what the market does in the long term. And that is with access to tons of money, phds, and resources (and could also just be survivorship bias). Thinking you have a similiar level of insight into the behaviour of the market involves a tremendous amount of hubris.
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I have kicked this idea around myself and would probably do it in a 30% recession. I have a heloc available and can lock the rate on any draw over a 5-20 year period, effectively making it a HEL. To me this is just buying up front, at a discount, something that I would be buying incrementally anyway in the future. Instead of small investments for 5 or 10 years, it would be a large chunk now and using that same money to pay the loan back.
ETA: This assumes a low interest rate is available and the heloc is available during the recession.
Do you know at what rate you could lock in your HELOC? I may investigate if my bank offers a similar product.
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Interactive Brokers offers margin loans for around 1.7%. I've decided to go without an emergency fund and just borrow from my broker in the event of a cash need.
Margin is always dangerous, whether its in the form of a HELOC or broker loan. It can be done successfully but it is important to have reasonable position sizing and a hedge.
1.5% if you borrow in EUR or CHF, 3.4% for USD now. Still cheap.
Borrowing in a separate currency is very, very risky. I knew people who switched euro mortgages to Swiss francs years ago, to avail of lower interest rates: one morning the outstanding balance on their loans jumped 33%, as the Swiss government gave up on maintaining parity. Currency risk should never be ignored; it can have a serious long-term effect, even before considering unexpected large movements.
On the broader question of whether this is effectively the same as mortgage borrowing: it isn't, not by a long shot. While they might be the same basic class of decision, the risk profiles are wildly different, and the risk profile is exactly why people are arguing that this could be a bad idea. This is deliberately reducing the amount of equity you hold in your home right as the market squeezes the exact same number and the chances of you needing to sell are maximised.
Why are the chances of needing to sell maximized just because the equity in your home goes down?
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Because housing price collapses and job losses are both pretty positively correlated with recessions. If your equity has dive-bombed, there's a very decent chance that your employer is in serious trouble, particularly if you live close to your employer (as Mustachians often do).
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I like the idea. Use the equity in your house to help you. It's an under utilized resource.
I've read of people starting businesses who took loans against their houses. Some lost their houses. Some became successful.
I wonder about the market. Will it go up and pay off your home loan? will it go down and you'll be paying longer?
One of the problems of the great depression was people buying on margin. They'd get their loans to and go buy RCA stock. It didn't work out well.
I am not a business man. Until quite recently, I didn't understand that the world works from debt. I didn't know that there is no backing for currencies and it all depends on hope and trust.
Seems like with the big tax cut, the big boys will be buying back stock and the price will go up. Why not throw the home equity money in and go along for the ride up?
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There's a thread elsewhere on the net (I can't for the life of me remember where), in which an extremely intelligent person devised an extremely carefully backtested plan for leveraged martingale-style investment, and lost absolutely everything - we're talking mid six figures gone up in smoke and reduced to zero over the course of a year or so.
https://www.bogleheads.org/forum/viewtopic.php?t=5934
This one. One of the best investing threads, like a Greek tragedy or a horror movie, where countless sages prophesied the future, and all the observers can see what is about to happen, but the hapless OP walks into it and is slaughtered (but shortly after discovered the FI community and achieved a happy ending with an unsurprising if remarkably low stock exposure).
Doesn't take long to see that this guy invested a lot of money late in a bull market. I didn't bother to read his cunning plan. Investing on margin in a mature bull market is highly risky and the opposite of what the OP is suggesting.
Hindsite is 20/20. We have a bias to think we could have know what would have happen had we been in this situation at this time, but we don't. Similiarly we don't truly know what will happen in todays market. Remember even top hedge funds like bridgewater and berkshire make 5% over what the market does in the long term. And that is with access to tons of money, phds, and resources (and could also just be survivorship bias). Thinking you have a similiar level of insight into the behaviour of the market involves a tremendous amount of hubris.
You have no foundational data to show they do this consistently the market actually shows the opposite is true. Are you just a troll or do you really just pull shit out of your ass and think it's true.
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One of the problems of the great depression was people buying on margin. They'd get their loans to and go buy RCA stock. It didn't work out well.
I totally get that buying on margin (beyond your reasonable ability to repay) in the midst of or at the top of a bull market is a fools game. That was a major cause of the Great Depression as well as the major reason the genius from the Bogleheads link went broke.
If we look at the history of corrections/recessions, we can make an educated guess based on the past about 1.) how low the market can go 2.) approximately how long until the market corrects.
Do you understand the concept of how waiting until the market drops a certain percentage, you limit the potential downside of the market falling further? You absolutely can calculate and time that part.
Another thing that people seem to forget is that if you wait and invest at a 30% decline and the market drops another 20%, you technically only need the market to recover 20% tonessentially eliminate your risk since you would be back to par. Even if the market drops and stays there for quite some time and you just can’t take it and have to sell your position, you still have 80% of the value of your original investment. The people that bought at the top of the market on margin and sell after a 50% decline are the big losers and if you don’t completely understand the concept and have confidence in it, I wouldn’t recommend trying it since it’s absolutely crucial to hold your investment until complete market recovery or I guess until the market recovers at least back to where you bought in at and you can sell and basically break even if things aren’t going like you planned.
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The other absolutely critical component to this, at least in my opinion, is that when you enter the market, you are buying into a total stock market index fund so that whatever the market does, your investment does.
I would not consider ever buying into one company’s stock no matter how strong they are on paper. I don’t have the stomach for that level of risk.
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Xcaliber:
https:/Do you understand the concept of how waiting until the market drops a certain percentage, you limit the potential downside of the market falling further? You absolutely can calculate and time that part. /
I understand about waiting until it drops. I understand that if it has dropped, you invest and it drops further that I would eliminated the loss of the first drop. I guess I don't know about timing the market and in particular calculating when it will drop. It seems somewhat unpredictable.
Xpauliber:
I would not consider ever buying into one company’s stock no matter how strong they are on paper. I don’t have the stomach for that level of risk.
People on this website consistently tell you to go for Index Funds. Right now, some companies are doing much better than the aggregate market, but blink and it will change.
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Another thing that people seem to forget is that if you wait and invest at a 30% decline and the market drops another 20%, you technically only need the market to recover 20% tonessentially eliminate your risk since you would be back to par.
That's not how percentages work.
$100k invested drops 20% -> $80k. To get back to $100k, you need the market to rise 25%.
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Another thing that people seem to forget is that if you wait and invest at a 30% decline and the market drops another 20%, you technically only need the market to recover 20% tonessentially eliminate your risk since you would be back to par.
That's not how percentages work.
$100k invested drops 20% -> $80k. To get back to $100k, you need the market to rise 25%.
My mistake. You are correct. Still though, you wouldn’t need a complete market recovery to get back to even and cash out if a total market recovery took longer than you had anticipated.
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Xcaliber:
https:/Do you understand the concept of how waiting until the market drops a certain percentage, you limit the potential downside of the market falling further? You absolutely can calculate and time that part. /
I understand about waiting until it drops. I understand that if it has dropped, you invest and it drops further that I would eliminated the loss of the first drop. I guess I don't know about timing the market and in particular calculating when it will drop. It seems somewhat unpredictable.
Xpauliber:
I would not consider ever buying into one company’s stock no matter how strong they are on paper. I don’t have the stomach for that level of risk.
People on this website consistently tell you to go for Index Funds. Right now, some companies are doing much better than the aggregate market, but blink and it will change.
Read my post above where I replied to Shinn and explained a hypothetical situation in the future and how you use the most recent market high as a benchmark to calculate when you should buy. You’re using a fixed number and so it’s absolutely possible to calculate when you should invest. Then you use limit orders to execute the purchase and not have to babysit the market. Now if you set a limit order, I’m not saying that I can tell you whether that will fill tomorrow, next month, or 5 years from now.
As for Index funds over individual stocks, I’m not trying to outperform the market with this strategy, I’m actually trying to mimic the market and it completely eliminates the risk of an individual company going bankrupt and then you lose everything. If the entire market goes bankrupt, we are all in trouble. Lol
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I was talking with an attorney the other day about different investing strategies & different ideas for how to build wealth. I explained my dislike for any debt and how I'm working to eliminate my mortgage and remain debt free. He had a different opinion & told me that the majority of his net worth is from real-estate and that he has always carried a significant amount of debt in his life to invest in different real-estate projects. He even made the comment that if you pay your house off, "you have this huge asset sitting there doing nothing for you."
That got me thinking that he is technically correct in that if you own your home, it's providing you a basic necessity but you're not necessarily using it in any way to generate/build wealth. That also got me thinking about how most people lose money trying to time the market and even more people lose significant amounts of money by panicking & selling during a recession. If however you stay in the market, you'll recover all your losses once it recovers. Additionally, if you had a stack of cash sitting outside of the market, you could invest during a recession and make some excellent returns. Obviously, having cash outside of the market is losing value though and so most people don't have a significant amount except for their emergency fund which wouldn't be smart to invest.
But what about using the equity in your home to invest during a recession? Let's say you have $50,000 in equity that you could pull in the form of a home equity loan with today's rate of 5.75% on a 20-year term would have payments of $351/month.
I did a quick review of the last 5 major recessions and found that the average decline was 40% and the average duration was 22 months:
1973-74 (48% - 645 days)
1976-78 (19% - 531 days)
1980-82 (27% - 622 days)
2000-02 (49% - 929 days)
2007-09 (57% - 517 days)
Let's say hypothetically in the future, you wait until the market declines 25%, and then you take out a home equity loan of $50,000. You set a buy order to deploy $10,000 (20% of your total funds) when the market hits a 30% decline from its most recent peak. Once that executes, you set another buy order to deploy another 20% of your funds if the market hits a 35% decline. Again for a 40% decline. And again for a 45% decline. And lastly one for a 50% decline until all your money is deployed. If you take out the home equity loan and the market never drops to 30%, you simply pay off the home equity loan and move on.
Since the average duration of a recession is 22 months and let's say you took the loan out a quarter of the way though (month 6), you would have to pay roughly 16 months worth of P&I payments on your home equity loan ($5,616) but wouldn't the upside potential be tremendous?? Once the market fully recovers, you could sell everything, payoff the home equity loan, repay yourself the P&I that you've paid those 16 months, pay taxes and pocket the rest. Or you could just sell enough shares to payoff the home equity loan, repay yourself the P&I that you've paid those 16 months, pay taxes and let the balance of the shares stay in the market since we would more than likely be at the start of a bull run.
There could be some risk if you only got to deploy one stage of capital though since a 30% gain on your first $10k wouldn't cover the cost of carrying the whole $50k home equity for 16 months. Maybe it would be better to deploy 50% of your capital at the 30% decline mark and then dollar cost average the rest of the way down? If the market didn't drop further, you would still have the balance of the home equity loan to sit on until the market recovered and then pay it off completely. Maybe toss it in a money market account to earn a little bit of interest while you wait for the market to recover.
Two major factors before I'd even consider doing something like this:
1. I'd only consider investing in a total stock market index fund and not ever any individual company stocks
2. I'd only consider this if your free cash flow can more than adequately cover the cost of the home equity loan. For instance, my personal budget has free cash flow every month of about $1,500 which is more than 5 times the cost of the home equity loan so there's very limited chance that the home equity loan would cause any stress on my monthly budget.
Any thoughts/comments on this hypothetical situation?
Didn't read all the posts, I like your idea if you have the guts and can get the money. Why don't you save cash now and when the crash happens, housing prices drop, interest rates drop, buy an investment property at a low rate, low cost. Now you are leveraged with only a small amount of your cash down payment but a large amount going up when things recover. You can rent it or even sit on it if you can afford.
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There's a thread elsewhere on the net (I can't for the life of me remember where), in which an extremely intelligent person devised an extremely carefully backtested plan for leveraged martingale-style investment, and lost absolutely everything - we're talking mid six figures gone up in smoke and reduced to zero over the course of a year or so.
https://www.bogleheads.org/forum/viewtopic.php?t=5934
This one. One of the best investing threads, like a Greek tragedy or a horror movie, where countless sages prophesied the future, and all the observers can see what is about to happen, but the hapless OP walks into it and is slaughtered (but shortly after discovered the FI community and achieved a happy ending with an unsurprising if remarkably low stock exposure).
Doesn't take long to see that this guy invested a lot of money late in a bull market. I didn't bother to read his cunning plan. Investing on margin in a mature bull market is highly risky and the opposite of what the OP is suggesting.
Different but not opposite. Both are leverage. In neither case could OP predict future market movements or know with foresight if it was a major or minor recession or major or minor correction. The big difference would be if the HELOC was not callable. Provided OP could get it, I understand banks are less willing to do cash out refis in major recessions.
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What makes me deeply uneasy about ideas like this is pretty simple:
There is a long, long, LONG history of people who thought they'd figured out a way to increase returns without increasing risk or exposure. The thread starter over on Bogleheads is a small example, as was the r/tradeXIV subreddit over on Reddit before XIV exploded and took all their funds with it. But there are bigger examples: in 1997, Myron Scholes and Robert Merton won the Nobel Prize in economics for "a new method to determine the value of derivatives" while sitting on the board of Long Term Capital Management LP. One year later, their fund lost $4.6bn. Four billion, six hundred million dollars, lost in the space of four months, by a firm run by actual Nobel-Prize-winning economists.
The odds that you have bucked the trend are long. The combined intellects of a few dozen frugal-living adherents with a reasonable interest in the markets may not be able to explain exactly how this will blow up in your face, but that does not mean it won't.
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...
I did a quick review of the last 5 major recessions and found that the average decline was 40% and the average duration was 22 months:
1973-74 (48% - 645 days)
1976-78 (19% - 531 days)
1980-82 (27% - 622 days)
2000-02 (49% - 929 days)
2007-09 (57% - 517 days)
...
I'm curious which source shows those numbers, since Portfolio Visualizer shows:
Sept 2000 - Sept 2002 was -44.1%
Nov 2007 - Feb 2009 was -50.9%
Using a home loan is a better idea than using margin. Unlike margin, home loans do not require more money if your house falls in value. The payments are more stable, and less risky than margin loans.
But you're leveraging your job a bit. During that downturn, is your job more likely to be lost? In which case you'd be unemployed with higher house payments. There's a risk you'd have to sell assets during a downturn to keep your home.
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I think it's a fine idea and in fact I was already planning to use it sometime if conditions suit... especially if I'm still working when markets crash so that I can deduct the interest from tax. It's a more difficult decision if in spending phase... probably depends on how much dry powder I've got in bonds/cash at the time.
It's mostly just a compromise in the eternal 'invest or pay down mortgage' debate... it's the 'pay down mortgage then switch to investing when the sale is on' alternative.
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What makes me deeply uneasy about ideas like this is pretty simple:
There is a long, long, LONG history of people who thought they'd figured out a way to increase returns without increasing risk or exposure. The thread starter over on Bogleheads is a small example, as was the r/tradeXIV subreddit over on Reddit before XIV exploded and took all their funds with it. But there are bigger examples: in 1997, Myron Scholes and Robert Merton won the Nobel Prize in economics for "a new method to determine the value of derivatives" while sitting on the board of Long Term Capital Management LP. One year later, their fund lost $4.6bn. Four billion, six hundred million dollars, lost in the space of four months, by a firm run by actual Nobel-Prize-winning economists.
The odds that you have bucked the trend are long. The combined intellects of a few dozen frugal-living adherents with a reasonable interest in the markets may not be able to explain exactly how this will blow up in your face, but that does not mean it won't.
Noted. Do you understand my original post and what I’m proposing?
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...
I did a quick review of the last 5 major recessions and found that the average decline was 40% and the average duration was 22 months:
1973-74 (48% - 645 days)
1976-78 (19% - 531 days)
1980-82 (27% - 622 days)
2000-02 (49% - 929 days)
2007-09 (57% - 517 days)
...
I'm curious which source shows those numbers, since Portfolio Visualizer shows:
Sept 2000 - Sept 2002 was -44.1%
Nov 2007 - Feb 2009 was -50.9%
Using a home loan is a better idea than using margin. Unlike margin, home loans do not require more money if your house falls in value. The payments are more stable, and less risky than margin loans.
But you're leveraging your job a bit. During that downturn, is your job more likely to be lost? In which case you'd be unemployed with higher house payments. There's a risk you'd have to sell assets during a downturn to keep your home.
I'll try to find the site I used that gave me that data but here is the chart that was on the site. I googled something like "history of market corrections in USA".
As for my job, my position is with a non-profit that is very secure and was unaffected during the Great Recession. Similarly, my wife works in the long-term healthcare field and her position was not affected during the Great Recession as well so we are pretty secure from the income standpoint.
Another thing that I hope people understand is to not leverage themselves beyond their comfort level. $50,000 in my particular situation would certainly be a hit that I wouldn't want to take if it all evaporated but my cash flow and other assets I own would be able to cover the loss. If I was proposing this with a 6-digit investment or I was within a couple years of retirement, I may be a bit more queasy but then again, if I implement this and it goes as I planned with $50,000, then I don't see any reason why increasing the investment would make a difference if you only invest with an amount that you can comfortably cover the debt service for a number of years if necessary.
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I think it's a fine idea and in fact I was already planning to use it sometime if conditions suit... especially if I'm still working when markets crash so that I can deduct the interest from tax. It's a more difficult decision if in spending phase... probably depends on how much dry powder I've got in bonds/cash at the time.
It's mostly just a compromise in the eternal 'invest or pay down mortgage' debate... it's the 'pay down mortgage then switch to investing when the sale is on' alternative.
Interesting way of thinking of it; I like it!
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You likely cant deduct your interest new tax law changes prevent most people from taking anything but standard deduction now.
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The basic principle being discussed here is a leveraged investment... should you borrow against your house to buy into a risky, fluctuating stock market?
If I had the opportunity I would probably be willing to any time the market has dropped 50%. I know someone who took out a seven figure loan during the 2008 crisis and let it ride for a decade. Obviously, not everyone has that option. But if you can do it it's a good way to have some extra wealth to will to your heirs, donate, etc.
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You likely cant deduct your interest new tax law changes prevent most people from taking anything but standard deduction now.
Depends which country you're in. Still good in Aus as far as I know.
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The basic principle being discussed here is a leveraged investment... should you borrow against your house to buy into a risky, fluctuating stock market?
If I had the opportunity I would probably be willing to any time the market has dropped 50%. I know someone who took out a seven figure loan during the 2008 crisis and let it ride for a decade. Obviously, not everyone has that option. But if you can do it it's a good way to have some extra wealth to will to your heirs, donate, etc.
The challenge though if you look at the chart I posted a couple posts up is that in the past 68 years, the market has only dipped below 50% one time. I’m hoping to capitalize on more minor recessions because as another poster mentioned, in the midst of a recession, you’ll never know whether it’s a major or minor recession so if you’re waiting for a 50% drop, you may never get into the market.
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The basic principle being discussed here is a leveraged investment... should you borrow against your house to buy into a risky, fluctuating stock market?
If I had the opportunity I would probably be willing to any time the market has dropped 50%. I know someone who took out a seven figure loan during the 2008 crisis and let it ride for a decade. Obviously, not everyone has that option. But if you can do it it's a good way to have some extra wealth to will to your heirs, donate, etc.
7 figures?! Wow. And it was a loan so he was servicing that debt for over a decade. Sounds like they would be a good commentor for this thread! Any idea if he lump summed into the market or deployed in stages? Any idea when he entered the market (what percent it was down?) and how he made the decision to enter?
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If you believe that “the market always goes up”, then how are you going to lose by investing with this approach?
I don't see how the logic about avoiding market timing is different if I'm holding "dry powder" in a checking account earning 0.5% interest or if I'm holding the same dry powder in excess home equity that I've be comfortable investing in the market. If I believe the market always goes up (which I do), wouldn't I have all of my money invested in the market before a market drop?
Let's say I'm okay with having as little as 20% equity in my primary residence (because below that the fees go up so the additional equity costs be a substantially higher effective interest rate than the first 80%). If I believe the market always goes up in the long run, then logically I should have all that money invested in the market, not held out of the market, waiting for a drop in prices which may never come.
The logic is the same if I'm only with as little as 0% equity, or 50% or 95%. So what I would lose by adopting your approach is the ability to profit if markets continue to go up, instead of only if the market goes down, and then back up again.
Now if you had a significant recession where interest rates for long term mortgages dropped, and home prices stayed approximately the same (or increased), yes in that case the amount of my net worth I'd be comfortable having locked up in home equity might decline. But even then the thing driving my decision making would be how much long term fixed rate mortgages had declined, not how much the stock market had declined.
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There's a thread elsewhere on the net (I can't for the life of me remember where), in which an extremely intelligent person devised an extremely carefully backtested plan for leveraged martingale-style investment, and lost absolutely everything - we're talking mid six figures gone up in smoke and reduced to zero over the course of a year or so.
https://www.bogleheads.org/forum/viewtopic.php?t=5934
This one. One of the best investing threads, like a Greek tragedy or a horror movie, where countless sages prophesied the future, and all the observers can see what is about to happen, but the hapless OP walks into it and is slaughtered (but shortly after discovered the FI community and achieved a happy ending with an unsurprising if remarkably low stock exposure).
Wow. I just read the whole thing.
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7 figures?! Wow. And it was a loan so he was servicing that debt for over a decade. Sounds like they would be a good commentor for this thread! Any idea if he lump summed into the market or deployed in stages? Any idea when he entered the market (what percent it was down?) and how he made the decision to enter?
I don't know him that well. The interest would have been tax deductible and I'm pretty sure he had the cash flow to cover it.
The challenge though if you look at the chart I posted a couple posts up is that in the past 68 years, the market has only dipped below 50% one time. I’m hoping to capitalize on more minor recessions because as another poster mentioned, in the midst of a recession, you’ll never know whether it’s a major or minor recession so if you’re waiting for a 50% drop, you may never get into the market.
Well, I'm simple. I just buy more every paycheck and don't keep any dry powder to speak of.
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The challenge though if you look at the chart I posted a couple posts up is that in the past 68 years, the market has only dipped below 50% one time. I’m hoping to capitalize on more minor recessions because as another poster mentioned, in the midst of a recession, you’ll never know whether it’s a major or minor recession so if you’re waiting for a 50% drop, you may never get into the market.
Well, I'm simple. I just buy more every paycheck and don't keep any dry powder to speak of.
Neither do I except the equity that's built up in my home. My main investment strategy is the same as you: investing every other week via my employer but this was an idea I had to try and capitalize on future downturns in the market with a source of equity that I do have outside of the market. I don't for a second believe I can time the market getting out and back in successfully therefore my main retirement funds stay in the market once they get invested.
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If you believe that “the market always goes up”, then how are you going to lose by investing with this approach?
I don't see how the logic about avoiding market timing is different if I'm holding "dry powder" in a checking account earning 0.5% interest or if I'm holding the same dry powder in excess home equity that I've be comfortable investing in the market. If I believe the market always goes up (which I do), wouldn't I have all of my money invested in the market before a market drop?
Let's say I'm okay with having as little as 20% equity in my primary residence (because below that the fees go up so the additional equity costs be a substantially higher effective interest rate than the first 80%). If I believe the market always goes up in the long run, then logically I should have all that money invested in the market, not held out of the market, waiting for a drop in prices which may never come.
The logic is the same if I'm only with as little as 0% equity, or 50% or 95%. So what I would lose by adopting your approach is the ability to profit if markets continue to go up, instead of only if the market goes down, and then back up again.
Now if you had a significant recession where interest rates for long term mortgages dropped, and home prices stayed approximately the same (or increased), yes in that case the amount of my net worth I'd be comfortable having locked up in home equity might decline. But even then the thing driving my decision making would be how much long term fixed rate mortgages had declined, not how much the stock market had declined.
I'm not sure I'm following the point you're trying to make. As you pay down your mortgage, the equity builds and is automatically tied up in your residence. The only way to tap that and invest it in the market is to borrow against it at which point, you then incur debt that needs serviced. Having dry powder in a checking account doesn't cost you anything to tap to invest so it can't be considered "dry powder" since you can't access it without incurring debt that needs serviced via your monthly cash flow.
I think what you're saying is that if I believe the market always goes up, then I should cash out all available equity (down to 20%) and invest that in the market at any point since it will eventually go up and generate a return for me. If that's the case, then when do you advocate paying off the mortgage since every time you borrow against it, you're increasing the debt that would need serviced and therefore you're extending how long it is until you pay off the debt.
My ultimate goal is to pay my mortgage off and be debt free so I'm not interested in leveraging against my house during normal market conditions but if the market dips significantly, why not tap the equity in your home to invest in the dip, generate a return as the market recovers, pay back the equity you borrowed and be right back to where you were pre-recession with regards to how much equity you own in your home but having made a profit in the meantime (that you could either leave invested or use to further pay down your mortgage)?
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He even made the comment that if you pay your house off, "you have this huge asset sitting there doing nothing for you."
Nonsense. Real estate values generally go up over time. If you live in that house then you're kind of like eating your dividends because you're not renting it. But of course if you lived elsewhere you'd be paying rent.
Let me guess... Is this lawyer trying to sell you on some investment? This idea that your home is "dead equity" is usually what SALESMEN say when they want to sell you index universal life insurance, annuities, etc.
I was just going to say that economists have predicted 10 of the last 3 recessions.
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He even made the comment that if you pay your house off, "you have this huge asset sitting there doing nothing for you."
Nonsense. Real estate values generally go up over time. If you live in that house then you're kind of like eating your dividends because you're not renting it. But of course if you lived elsewhere you'd be paying rent.
Let me guess... Is this lawyer trying to sell you on some investment? This idea that your home is "dead equity" is usually what SALESMEN say when they want to sell you index universal life insurance, annuities, etc.
I was just going to say that economists have predicted 10 of the last 3 recessions.
Your real estate value moves regardless of a mortgage.
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I think what you're saying is that if I believe the market always goes up, then I should cash out all available equity (down to 20%) and invest that in the market at any point since it will eventually go up and generate a return for me. If that's the case, then when do you advocate paying off the mortgage since every time you borrow against it, you're increasing the debt that would need serviced and therefore you're extending how long it is until you pay off the debt.
My ultimate goal is to pay my mortgage off and be debt free so I'm not interested in leveraging against my house during normal market conditions but if the market dips significantly, why not tap the equity in your home to invest in the dip, generate a return as the market recovers, pay back the equity you borrowed and be right back to where you were pre-recession with regards to how much equity you own in your home but having made a profit in the meantime (that you could either leave invested or use to further pay down your mortgage)?
As boarder42 can tell you, you don't need a paid off mortgage to FIRE.
But if you really believe the market always goes up and you don't want to FIRE until you have a paid off mortgage to FIRE, the fastest way to hit FI would be to keep your equity at whatever the minimum amount you're comfortable with given available interest rates until the value of your stocks reaches 25x your annual expenses + enough extra to pay off your home loan and then sell enough stocks to pay off your home in one fell swoop.
And the point I'm making is that there is nothing magically different about the proportion of home equity that you're willing to invest vs money sitting in a checking account. In both cases you'll get better average returns by putting it in the market right away vs trying to wait for recessions and trying to time the market.
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If you believe that “the market always goes up”, then how are you going to lose by investing with this approach?
If I believe the market always goes up (which I do), wouldn't I have all of my money invested in the market before a market drop?
[...]
If I believe the market always goes up in the long run, then logically I should have all that money invested in the market, not held out of the market, waiting for a drop in prices which may never come.
I think you're correct that this strategy offers nothing for someone who has an interest-only mortgage or who continuously refinances their home to remove all "excess" equity (i.e. any equity over 5% or 20% or whatever number the person views as the desirable baseline).
However, I think that's an edge objection -- very few people fit those criteria. To my understanding, banks are fairly wary about extending interest-only mortgages, so selecting that option (and then investing the increased cash flow that would otherwise go into the principal) requires that you accept worse terms on other aspects (such as interest rates). Similarly, refinancing a mortgage regularly has both monetary costs (refinancing fees and potentially higher interest rates) and non-monetary costs (time and hassle of completing the refinance).
As a result, it's not uncommon to see people advocate holding a 30-year mortgage and investing the increased cash flow rather than prepaying the mortgage. It's quite rare to see people advocate continuously pulling all excess equity out of a home in order to maximize market investments, even if that's just the full-commitment version of the "invest the difference" strategy. (And obviously somewhere someone does do that, but it's extremely atypical.)
I'm still thinking about it, and I feel like seeing some historical backtesting would give a much better idea, but the core of the approach seems like it makes sense to me. Assuming that lenders are willing to allow you to pull equity out of your home during a downturn (which may or may not be an accurate assumption), then shifting assets from home equity to (index funds of) stocks during a downturn seems to provide positive expected return at minimal (albeit nonzero) increased risk.
Also, if you lose your job, having 50% home equity doesn't help you avoid foreclosure. If I lost my job, from the perspective of being forced into foreclosure, I'd prefer to have pulled out the money comprising the home equity and put it into the stock market before losing my job (and as the Great Recession showed, both home values and stocks can drop, so it's not necessarily the case that holding your money in home equity will prevent loss of principal in the short-term).
(This latter point is something of a side discussion, but I recall others making this point on these forums previously -- perhaps boarder or Dodge? -- with the main takeaway being that less than 100% home equity doesn't actually protect you from foreclosure in the event of job loss and illiquidity.)
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I think you're correct that this strategy offers nothing for someone who has an interest-only mortgage or who continuously refinances their home to remove all "excess" equity (i.e. any equity over 5% or 20% or whatever number the person views as the desirable baseline).
However, I think that's an edge objection -- very few people fit those criteria. To my understanding, banks are fairly wary about extending interest-only mortgages, so selecting that option (and then investing the increased cash flow that would otherwise go into the principal) requires that you accept worse terms on other aspects (such as interest rates). Similarly, refinancing a mortgage regularly has both monetary costs (refinancing fees and potentially higher interest rates) and non-monetary costs (time and hassle of completing the refinance).
As a result, it's not uncommon to see people advocate holding a 30-year mortgage and investing the increased cash flow rather than prepaying the mortgage. It's quite rare to see people advocate continuously pulling all excess equity out of a home in order to maximize market investments, even if that's just the full-commitment version of the "invest the difference" strategy. (And obviously somewhere someone does do that, but it's extremely atypical.)
I'm still thinking about it, and I feel like seeing some historical backtesting would give a much better idea, but the core of the approach seems like it makes sense to me. Assuming that lenders are willing to allow you to pull equity out of your home during a downturn (which may or may not be an accurate assumption), then shifting assets from home equity to (index funds of) stocks during a downturn seems to provide positive expected return at minimal (albeit nonzero) increased risk.
Obviously it doesn't make sense to refinance your house to pull out $1,000 in excess equity. That's true whether the market is up or down relative to six months ago. However, in order to pull money out of a house without taking on variable rate debt through something like a HELOC (which xpauliber has said was not what he or she was advocating), you'd need to pull equity out of your house through either a refinance, second mortgage, or home equity loan. So the only people who would be discussing this situation are those with enough excess equity in their houses that it could make financial sense to pull some of that extra equity out to invest in the market.
So now we're back to the same question of, if a person believes that markets always go up, and they have enough equity in their home (beyond what they need to sleep comfortably at night) that it is financially viable to tap into that excess equity, why wouldn't that person pull that same equity out to invest in the market, regardless of what the current price is relative to two or three, or six months ago?
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I think you're correct that this strategy offers nothing for someone who has an interest-only mortgage or who continuously refinances their home to remove all "excess" equity (i.e. any equity over 5% or 20% or whatever number the person views as the desirable baseline).
However, I think that's an edge objection -- very few people fit those criteria. To my understanding, banks are fairly wary about extending interest-only mortgages, so selecting that option (and then investing the increased cash flow that would otherwise go into the principal) requires that you accept worse terms on other aspects (such as interest rates). Similarly, refinancing a mortgage regularly has both monetary costs (refinancing fees and potentially higher interest rates) and non-monetary costs (time and hassle of completing the refinance).
As a result, it's not uncommon to see people advocate holding a 30-year mortgage and investing the increased cash flow rather than prepaying the mortgage. It's quite rare to see people advocate continuously pulling all excess equity out of a home in order to maximize market investments, even if that's just the full-commitment version of the "invest the difference" strategy. (And obviously somewhere someone does do that, but it's extremely atypical.)
I'm still thinking about it, and I feel like seeing some historical backtesting would give a much better idea, but the core of the approach seems like it makes sense to me. Assuming that lenders are willing to allow you to pull equity out of your home during a downturn (which may or may not be an accurate assumption), then shifting assets from home equity to (index funds of) stocks during a downturn seems to provide positive expected return at minimal (albeit nonzero) increased risk.
Obviously it doesn't make sense to refinance your house to pull out $1,000 in excess equity. That's true whether the market is up or down relative to six months ago. However, in order to pull money out of a house without taking on variable rate debt through something like a HELOC (which xpauliber has said was not what he or she was advocating), you'd need to pull equity out of your house through either a refinance, second mortgage, or home equity loan. So the only people who would be discussing this situation are those with enough excess equity in their houses that it could make financial sense to pull some of that extra equity out to invest in the market.
So now we're back to the same question of, if a person believes that markets always go up, and they have enough equity in their home (beyond what they need to sleep comfortably at night) that it is financially viable to tap into that excess equity, why wouldn't that person pull that same equity out to invest in the market, regardless of what the current price is relative to two or three, or six months ago?
I think we're in substantial agreement. I suspect most of the divergence in what we're saying is because I joined the thread late and haven't fully given my position (which isn't identical to the OP's views).
I don't think that refinancing your house to buy more stocks during a downturn is a risk-free way of increasing returns; there's likely still some increase in risk. And if refinancing / pulling equity out of your home were friction-less, then you'd want to be doing that constantly all the time anyway.
The OP primarily struck me as leveraging the psychological reaction of stocks being "on sale" during a downturn (as a way of preventing panic-selling), to then be used as a reminder to expend the effort to check whether pulling equity out of your home is feasible. I think that's substantively a bit more measured than what the OP suggested, so I realize my takeaway is more limited. But from that perspective, using a 25% or 30% downturn as a reminder to evaluate whether (1) current lending options make such a maneuver feasible and (2) the investor's emotional/psychological willingness to shift more assets into a declining stock market. If the answer to both is yes, then refinancing to shift home equity to stocks seems like it should have a positive expected value.
(And to reiterate, that expected value would still be lower than just checking whether refinancing is feasible every twelve months or something, but perhaps that's overly burdensome. I don't have any experience which would provide me with a personal basis of knowledge for making that judgment.)
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Okay, yes I think part of the problem is I saw your post as a description of the OPs original position, rather than articulating your own independent view of the issue. Please do accept my apologies for that and thanks for the gentle call out on what I was doing.
My fear is that the OP, consciously or unconsciously, is thinking that after a significant downturn, stocks will tend to increase in value much faster than they do normally. This is a very common pattern to see come up both on these message boards, either in regular conversation or here on the forums, and I was trying to point out that the part about using money from home equity rather than cash in a bank account doesn't change the fact that historical analyses suggest higher average returns from buying into the market right away instead of waiting to buy during dips in price.
However, I do agree with you that for a person comfortable with a relatively slow amount of equity in their house, if a downturn acts as a reminder to check whether they have enough equity to pull out (when taking into account the friction of doing so), there's absolutely nothing wrong with that. It just probably doesn't provide a magic edge of increases returns vs just refinancing every 5 or 10 years on a fixed schedule.
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Okay, yes I think part of the problem is I saw your post as a description of the OPs original position, rather than articulating your own independent view of the issue. Please do accept my apologies for that and thanks for the gentle call out on what I was doing.
My fear is that the OP, consciously or unconsciously, is thinking that after a significant downturn, stocks will tend to increase in value much faster than they do normally. This is a very common pattern to see come up both on these message boards, either in regular conversation or here on the forums, and I was trying to point out that the part about using money from home equity rather than cash in a bank account doesn't change the fact that historical analyses suggest higher average returns from buying into the market right away instead of waiting to buy during dips in price.
However, I do agree with you that for a person comfortable with a relatively slow amount of equity in their house, if a downturn acts as a reminder to check whether they have enough equity to pull out (when taking into account the friction of doing so), there's absolutely nothing wrong with that. It just probably doesn't provide a magic edge of increases returns vs just refinancing every 5 or 10 years on a fixed schedule.
No worries; I wasn't entirely clear in differentiating my position, and I really appreciate your comments. When I wrote my first comment, I was actually still trying to parse out whether the approach of investing home equity during a downturn had some (risk-adjusted) upside I wasn't seeing that differentiated it from a typical market timing situation.
As far as I can tell, your second paragraph is completely correct and perfectly captures the issue. Even if we think it's reasonable to expect higher than typical returns going forward following a 30% stock market decline, that doesn't justify sitting on the sidelines waiting for a 30% decline before jumping in. That's true whether the funds which would be invested post-decline are held in cash or in the form of home equity.
I think the real insight from the OP is that if you buy the approach of investing excess funds rather than prepaying a mortgage, the logical outgrowth of that strategy is to periodically refinance your mortgage to extract and then invest "excess" home equity. I think you're right that parsing that step as triggered by stock market decline is sub-optimal market timing (even if it might be a useful psychological trigger).
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Okay, yes I think part of the problem is I saw your post as a description of the OPs original position, rather than articulating your own independent view of the issue. Please do accept my apologies for that and thanks for the gentle call out on what I was doing.
My fear is that the OP, consciously or unconsciously, is thinking that after a significant downturn, stocks will tend to increase in value much faster than they do normally. This is a very common pattern to see come up both on these message boards, either in regular conversation or here on the forums, and I was trying to point out that the part about using money from home equity rather than cash in a bank account doesn't change the fact that historical analyses suggest higher average returns from buying into the market right away instead of waiting to buy during dips in price.
However, I do agree with you that for a person comfortable with a relatively slow amount of equity in their house, if a downturn acts as a reminder to check whether they have enough equity to pull out (when taking into account the friction of doing so), there's absolutely nothing wrong with that. It just probably doesn't provide a magic edge of increases returns vs just refinancing every 5 or 10 years on a fixed schedule.
Wow. Posting this topic has generated way more ideas than I had anticipated. Thanks to everyone that's shared their thoughts/insight. The thoughts about refinancing every few years to extract excess equity and invest is interesting but it's not at all what I had in mind when I made my original post and doesn't capture my intent. I have no interest in refinancing periodically and continuing to extend the term on my mortgage just to invest the difference in the market & earn the average return over the years (as someone mentioned above, your mortgage is a risk until you own 100% of the equity in your home so that is a top priority goal for me). However, I'm very interested in simply trying to capitalize on a significant downturn in the market to make a profit (ie. increase my net worth).
Let me see if I can articulate it in this fashion using a simplified net worth example:
Net Worth before recession:
$200,000 home
- $110,000 mortgage balance
$90,000 net worth
If I used Scenario 1 in the chart I posted earlier, here's what my Net Worth would be on 2/23/2009 on the day I was fully invested during the recession:
$200,000 home
+ $41,826 stock
- $110,000 mortgage balance
- $50,000 HEL
$81,826 net worth
Here's what Net Worth would be on 3/9/2009 at the bottom of the Recession:
$200,000 home
+ $37,922 stock
-$110,000 mortgage balance
-$50,000 HEL
$77,922 net worth
And here's what my Net Worth would be on 12/2/2010, the day the market fully recovered and I sold everything & paid off the HEL (just assuming that we "paused" any additional mortgage payments for the sake of this example and also assume that the value of my home didn't go down during the recession which would just be paper loss anyway)
$200,000 home
+ $23,516 realized gain from investments
- $110,000 mortgage
$113,516 net worth
Does that make more sense? I only want to tap into the equity in my home to capitalize on an opportunity to buy stocks on sale and exit my position immediately upon market recovery and then eliminate the debt (leverage) which restores the original amount of equity I owned in my home AND increased my net worth via the profit I made from the increase in the value of the stocks I purchased using that leverage. If I continuously refinance to invest the difference in the market, then my net worth only increases what the market returns since I'm constantly adding more debt via the refinanced mortgage. In this latter case, I agree that it makes no difference whether you enter the market today or during a dip but that's not my intention.
Paying off my mortgage is one of my top priorities so I'm OK with letting my excess equity sit on the sidelines but I don't want to let opportunities that only happen every decade or so to slip away if I can capitalize on them using a disciplined strategy with limited risk and not only restore my equity position in my home on the opposite side but also increase my net worth.
As for your comments highlighted above, stocks absolutely do increase in value much faster immediately after a significant downturn provided you buy low & sell at recovery which is exactly what I'm advocating. Using the chart I posted with historical data from the Great Recession, when the market bottomed out on 3/9/2009, VTI was trading at $28.07. When the market fully recovered on 12/3/2010, VTI was trading at $63.34 which is a 126% increase in 22 months! I have no idea how to calculate what that translates to annualized (maybe someone can calc that out) but it's magnitudes more than the typical 9-10% that the market historically returns. Now of course, that's using a perfect "what if" scenario of investing exactly at the bottom and exiting when the market returned fully to the previous peak. However, using the deployment schedule I posted earlier which is entirely possible to calculate beforehand and execute (provided the market fell 50%), you would have realized:
30% return in 27 months (Oct 2008 - Dec 2010)
35% return in 27 months (Oct 2008 - Dec 2010)
40% return in 27 months (Oct 2008 - Dec 2010)
45% return in 27 months (Oct 2008 - Dec 2010)
50% return in 22 months (Feb 2009 - Dec 2010)
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OP if you cant understand why this is valuable to do a REFI consistently and you view a low fixed rate mortgage as a risk in those scenarios then trying to time the market just increases your risk in most cases. the concept is sound regardless of the status of the market so if you ahve excess equity and rates are below your rate its a simple no brainer to refi and dump into the market - if on the other hand rates are higher you have to account for an increase in that rate or get an HEL for the balance you want and you have to account for the cost to REFI. doing all this in a down turn may make you feel like you did it a better way but history would tell us this should be done regardless of the status of the market. and consistently doing so would win out assuming rates are low enough to arbitrage the difference in return between mortgage rate and share price.
Honestly you're bringing many emotions into it IMO at this point and are not looking at the math and the numbers.
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Okay, so we've clarified that it is, in fact, you're consciously thinking you can predict future stock market returns from past stock market returns (specifically you think that if the stock market goes down, you then expect it to move back up faster than it otherwise would have). As a result, you're willing to accept riskier investing behavior* during a recession than you are during normal times.
Being willing to accept higher risks for a higher expected return is perfectly rational, but, so far, you haven't presented evidence that the expected returns during a recession consistently higher than during normal economic times, beyond the observation that your strategy would have produced a positive return in the most recent recession the USA has experienced.
*Now it's is made more complex by the fact that the expected value of increasing your leverage in the stock market using low interest uncallable 30 year fixed term debt is indeed positive (as boarder42 points out). But since you've said that's not the approach you're trying to take, we can set this positive expected value aside.
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I only want to tap into the equity in my home to capitalize on an opportunity to buy stocks on sale and exit my position immediately upon market recovery
Forgive me if someone else has mentioned this, but... Japan? You could be waiting a long time for the market to recover.
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*Now it's is made more complex by the fact that the expected value of increasing your leverage in the stock market using low interest uncallable 30 year fixed term debt is indeed positive (as boarder42 points out).
Yeah, if I had low interest 30 year fixed term debt I'd have been throwing everything into stocks too. But I don't. Sorry OP, I can't really help with your argument if you're in the US... land of the free money.
Maybe frame it in terms of your specific circumstances? Employment precarious? Unusual mortgage? Got an SO you can blame?
I only want to tap into the equity in my home to capitalize on an opportunity to buy stocks on sale and exit my position immediately upon market recovery
Forgive me if someone else has mentioned this, but... Japan? You could be waiting a long time for the market to recover.
I believe time to recovery is irrelevant. The difference is in the time to crash. One case is fully invested in the market and the other is at least partially in home equity.
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So I decided to do some modeling using historical S&P 500 data and then I used (VOO) since it tracks the S&P 500 in lockstep and I could extrapolate what the price would have been all the way back to the Great Depression. I then implemented my original deployment model of waiting for a 20% drop in the market to then obtain a $50,000 HEL and deploy it in $10,000 increments based on the following % drop: 30/35/40/45/50 and I modeled it across all recessions back to the Great Depression. Then I played around with different deployment schedules (35/35/35/40/45, 35/35/40/45/50, 40/40/40/40/45, etc.) to see what the effective return would have been.
I then did an alternate scenario where instead of obtaining a HEL, what if I instead just invested the same amount that I would be paying on P&I payments on the HEL in the market for the exact same time that I would have been paying on the HEL to see what the result would have been (I called this "Simple Investing"). I also modeled this across all past recessions.
What I found was that over the course of the last 80+ years, obtaining a HEL when the market dropped 20% was way too risky as there were too many times that you would have obtained the HEL and been repaying it but the market didn't drop far enough for you to deploy any capital so you would have always been in the red. Or there were times that you were only able to deploy $10,000 and you carried the $40,000 balance in your brokerage account earning nothing for YEARS and you came out way behind.
Since jumping the gun at 20% was too risky, I then decided to model waiting for a 30% drop before obtaining a HEL instead since the cost of carrying the loan would be lower. I did the same thing waiting for a 40% drop as well. In all of the models, I utilized various deployment scenarios and cross-referenced them against "Simple Investing" which would have been the P&I payments during the identical time that you would have deployed capital in the market. Waiting for a 40% drop insulated you from obtaining a HEL too early and never deploying it and also provided the most consistent point that you'd have had a more favorable return obtaining a HEL & deploying it than just "Simple Investing" during the downturn.
Once I completed all of the modeling, I consolidated all of the results into a single spreadsheet for each recession and then sorted them in descending order to show which deployment schedule would have obtained the greatest return and then added the "Simple Investing" results beside each so you could see whether the HEL approach or the Simple Investing approach would have yielded the greater returns for each recession.
My conclusion is that waiting for a 40% drop in the market to obtain a HEL and then deploying would have been the most lucrative & less risky approach over the past 85 years with the exception of the Great Depression. During the Great Depression, you would have been better off with the "Simple Investing" approach and investing the amount of P&I every month for 289 months. Haha Of course, as other people have pointed out in this thread, refinancing regularly and investing that money in the market no matter what stage it is in would be the fastest way to achieve FIRE but I really like the idea of having a paid off mortgage & so this analysis is just toying with the idea of how to have the best of both worlds.
After reviewing all of this modeling, I think my approach now will be when the market drops 20%, I will begin investing $276 (which is what the monthly payment would be on a $50,000 HEL for 30 years @ 5.25%) every month from my monthly cash flow up until the market either recovers or it drops 40%. If/when it drops 40%, I would then have to give it some serious thought about obtaining a $50,000 HEL (provided I get a 30-year term @ 5.25% or less) and deploy it probably on a 40/40/40/40/45 schedule.
If anyone is interested in the Excel doc that I put together that shows the formulas/outcomes of the different scenarios, I'd be more than happy to email it to you. Just thought I would share the results for the people that were also thinking about potentially utilizing this approach. Here are the results of the first four most recent recessions using different timings & deployment schedules.
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And here are the other 4 recessions from 1974 to the Great Depression:
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You likely cant deduct your interest new tax law changes prevent most people from taking anything but standard deduction now.
Nonsense, just have to live in a super high COL, high tax area.
In 2018 my mortgage interest will be about $18k, plus the $10k max for state/local taxes (which will be about $13k total) and I "beat" the standard deduction by about $4k. Oh and some charity thrown in there.
I'm being facetious as I am not "most" people so your point stands. If the new standard deduction holds, eventually the interest will drop down low enough that we'll be taking the standard as well.
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If you end up implementing this plan in real life, please start a new thread so we can follow along. Thanks.
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If you end up implementing this plan in real life, please start a new thread so we can follow along. Thanks.
And let's all hope it doesn't turn out like the saga of market timer over on BH. I'm about half way through the epic thread, and the huge thing that jumps out at me is that when he was laying out the plan, he was only using non-callable debt (sounds like mostly CC promo offers). So there was "no possibility" of a margin call.
Then he immediately took that borrowed capital and borrowed on margin to increase the leverage further. Had he stuck to the original plan, he would have at least kept all the assets, and just had lots of debt.
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I only want to tap into the equity in my home to capitalize on an opportunity to buy stocks on sale and exit my position immediately upon market recovery
Forgive me if someone else has mentioned this, but... Japan? You could be waiting a long time for the market to recover.
...while paying only 0.5% interest on the loan and getting a dividend yield of 1.5-2.0% on the stocks...
Yes, it's a zombie thread. I was asked to revisit it.
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If you end up implementing this plan in real life, please start a new thread so we can follow along. Thanks.
And let's all hope it doesn't turn out like the saga of market timer over on BH. I'm about half way through the epic thread, and the huge thing that jumps out at me is that when he was laying out the plan, he was only using non-callable debt (sounds like mostly CC promo offers). So there was "no possibility" of a margin call.
Then he immediately took that borrowed capital and borrowed on margin to increase the leverage further. Had he stuck to the original plan, he would have at least kept all the assets, and just had lots of debt.
Yes, the BH market timer had a host of additional risk factors. The CC debt was short-term low/no interest and would turn into high and variable interest debt. Bad enough. He then went into margin debt to compound the risk.
Because I recently have commented about planning to take home equity out when the market drops ~40%, it was apparently close enough to OP's plan to ask me to comment here.
There are some significant differences.
As maizeman and others pointed out - the OP is giving up one of the big potential advantages of using home equity: A fixed, low interest, non-callable 30 year loan. If I'm going to do this, that would be my plan - take the 30 year fixed mortgage, and the payment would be something I can cash flow. No risk of margin calls, no risk of high interest rates.
In addition, I would plan to just do one refi and dump everything into the market. None of this sequential purchases, and no paying off the mortgage after some period of market recovery.
As was discussed earlier - one thing which has kept me from pulling equity is the "frictional costs." It costs a fair chunk of money to make a refi happen, and that's painful for me. Even if the math works.