Time to pay off recent mortgages?

[Radagast]

Not paying off the mortgage has long been a staple of this forum, and I've been an adherent, yet I wonder if it is time to revisit this convention. Over the past year new 30-year mortgages have regularly been 7%+, and even as much as over 8%. About five years ago I suggested a couple rules of thumb to know if it was time to pay down the mortgage (not gonna find the post sorry).

The first is from MDM at the investment order thread: https://forum.mrmoneymustache.com/investor-alley/investment-order/

Pay off any debts with interest rates ~%3% or more above the current 10-year Treasury note yield.

The current treasury yield (as of writing) was 4.58%. Therefore, per forum wisdom, anyone with a rate >7.58% should be paying down their mortgage.

The second is my own but fairly convention idea, pay down debts more than 1/CAPE10 + 10yr TIPS yield + 0.7%, which is historically the approximate return of the S&P500. 1/30+2.19%+0.7%= 6.22%. Per this rule, it is certainly time to be paying down the mortgage at today's rates.

Per these indicators, people with mortgage rates >7.5% and as low as 6% should be paying off their mortgages under these circumstances, certainly if they can do it with a lump sum. Depending on the liquidity and stability of the individual, it seems like many should also be putting money into the mortgage instead of investing in taxable accounts.

This isn't a leading edge thought, conditions seem to have been more or less like this for a year or more.

[Mr. Green]

If it becomes apparent that rates are going to stay above 5% for years to come, we would start to pay down or pay off our mortgage. We are still hoping we have a chance to refi to something lower than 5% in the next year or two because we'd much prefer to leave that cash invested.

[Morning Glory]

We bought a year ago when the market was down and certainly came out ahead by taking a stupid 7%+ mortgage instead of selling almost all our taxable funds to pay cash for the house. (We did buy the cheapest house that would meet our needs and put 25% down, however chose not to pay points to buy down the rate since the breakeven time would be too long)

https://finance.yahoo.com/quote/VTI/performance/

Of course past performance doesn't predict future returns. I am leery of taking out a huge lump sum, though I have been making extra payments when i get dividends and stuff.  Current balance is $376k in taxable and the mortgage is -$182k. Would you dollar-cost average and over what period of time?

I was worried about aca subsidies but then a few months ago I sold 10k of VTSAX to buy a new hvac and the LTCG was only $40 so it's probably not an issue (about 75% of the vtsax was bought in July 2021 when we sold our old house).

Another concern is psychological in that my spouse might use having the house paid off as an excuse to increase spending instead of replenishing the accounts.

[Radagast]

We bought a year ago when the market was down and certainly came out ahead by taking a stupid 7%+ mortgage instead of selling almost all our taxable funds to pay cash for the house. (We did buy the cheapest house that would meet our needs and put 25% down, however chose not to pay points to buy down the rate since the breakeven time would be too long)

https://finance.yahoo.com/quote/VTI/performance/

Of course past performance doesn't predict future returns. I am leery of taking out a huge lump sum, though I have been making extra payments when i get dividends and stuff.  Current balance is $376k in taxable and the mortgage is -$182k. Would you dollar-cost average and over what period of time?

I was worried about aca subsidies but then a few months ago I sold 10k of VTSAX to buy a new hvac and the LTCG was only $40 so it's probably not an issue (about 75% of the vtsax was bought in July 2021 when we sold our old house).

Another concern is psychological in that my spouse might use having the house paid off as an excuse to increase spending instead of replenishing the accounts.

We took a car loan in October 2022 for a new minivan even though we could have paid cash, but paid it off in October 2023 even though the rate was lower (4.8%). Definitely came out ahead by that though by how much was a coincidence.

I don't think DCA makes sense for repaying a mortgage. It's specifically a stock strategy. For mortgages with no volatility I think its either no extra payments at all, or go all in.

Spouse mentality plays a large role here too!

[Morning Glory]

We bought a year ago when the market was down and certainly came out ahead by taking a stupid 7%+ mortgage instead of selling almost all our taxable funds to pay cash for the house. (We did buy the cheapest house that would meet our needs and put 25% down, however chose not to pay points to buy down the rate since the breakeven time would be too long)

https://finance.yahoo.com/quote/VTI/performance/

Of course past performance doesn't predict future returns. I am leery of taking out a huge lump sum, though I have been making extra payments when i get dividends and stuff.  Current balance is $376k in taxable and the mortgage is -$182k. Would you dollar-cost average and over what period of time?

I was worried about aca subsidies but then a few months ago I sold 10k of VTSAX to buy a new hvac and the LTCG was only $40 so it's probably not an issue (about 75% of the vtsax was bought in July 2021 when we sold our old house).

Another concern is psychological in that my spouse might use having the house paid off as an excuse to increase spending instead of replenishing the accounts.

We took a car loan in October 2022 for a new minivan even though we could have paid cash, but paid it off in October 2023 even though the rate was lower (4.8%). Definitely came out ahead by that though by how much was a coincidence.

I don't think DCA makes sense for repaying a mortgage. It's specifically a stock strategy. For mortgages with no volatility I think its either no extra payments at all, or go all in.

Spouse mentality plays a large role here too!

I mentioned DCA because of selling the stock, to spread out the risk of losing the few "best days" in a year of market returns.  In my head I have it as generally considered bad strategy for buying stocks because of the missed gains so by that logic
it should be a good strategy for selling them

Yes I typically advise against partially repaying a mortgage due to liquidity risk since the next payment is due on the first no matter how much of the balance is still owed, however I feel like I have plenty of safety margin in this particular case and like Mr. Green I am still hoping for a refi opportunity.

I am open to this logic being questioned or I wouldn't be posting about it :)

[Radagast]

https://dqydj.com/sp-500-historical-return-calculator/
Another good resource is the DQYDJ historical return calculator. To use it for mortgages just don't adjust for inflation.

A 7.5% mortgage rate has tied or exceeded the S&P500 about 40% of the time out to 20 year periods. Under today's circumstances are we more likely in the 40% of cases where nominal stock returns are lower than 7.5% for the next 5-20 years? I think there is a good case for it.

Percentage Beating Annual Return over Period(s)
Length of Investment:30 Year   20 Year   10 Year   5 Year
90 %   6.385 %   5.803 %   3.400 %   -0.125 %
80 %   7.089 %   6.699 %   4.946 %   2.693 %
70 %   7.902 %   7.214 %   6.335 %   4.831 %
60 %   9.199 %   7.589 %   7.581 %   7.441 %
50 %   9.899 %   8.102 %   8.665 %   9.594 %
40 %   10.299 %   9.159 %   9.851 %   11.512 %
30 %   10.667 %   11.059 %   12.304 %   13.815 %
20 %   11.206 %   12.324 %   14.497 %   16.149 %
10 %   12.430 %   14.318 %   16.518 %   19.452 %

[Radagast]

I mentioned DCA because of selling the stock, to spread out the risk of losing the few "best days" in a year of market returns.  In my head I have it as generally considered bad strategy for buying stocks because of the missed gains so by that logic it should be a good strategy for selling them

DCA is actually good for money weighted returns because you buy more shares when they are cheaper and less when they are more expensive, so you get better return on every dollar. However because you lose compounding time it's the worse option most of the time if you have the option for lump sum.

DCA when selling gives worse money weighted returns because on average you sell more shares when they are cheaper and fewer when they are more expensive. Plus, you lose the compounding on the shares you sold early. It's lose-lose. On average you would be much, much better off just holding onto the shares and selling at the end of the period. Basically DCA is voluntarily taking on the same dreaded "sequence of returns risk" os retirees. Either sell and pay off your mortgage at an advantageous time, or cling to it as long as possible, but don't do anything in between if you have the option not to.

[Dicey]

It's more nuanced than that. You have to consider inflation, now that it's reared its ugly head again. It changes the calculations considerably. A mortgage is still an excellent hedge against inflation. Paying the fixed rate mortgage back with deflated dollars is powerful.

[Must_ache]

Dollar Cost Averaging is, of course, a form of market timing.  If you expect an investment to pay off, you are better off putting all your money in right away and not leaving any on the sidelines to miss out.  If you are holding off because you are worried about a down day, you are timing the market and could just as easily [and more likely if you are right about your investment] be missing an up day.

One third option right now is if that if you are undecided you can put your funds in TBIL and yield 5.2% and delay or partially implement your decision (against my supposed theoretical wisdom above).  At some point short-term rates go down and this option will become less attractive.  If this were yielding next-to-nothing like two years ago it wouldn't even be part of the conversation.  But if you feel better implementing your decision over several months or a year, at least you can still get some yield while taking your time.  But I think that paying down any 7%+ mortgage is a sensible decision; even if the stock market could generate a bit more, it's not without its uncertainty. 

A mortgage is still an excellent hedge against inflation.  Paying the fixed rate mortgage back with deflated dollars is powerful.

Is the mortgage the inflation hedge, or the purchase of the house in the first place?  If you are paying $300K for your house, you are doing so to avoid rent payments that will inflate (and go on indefinitely) in the future.  How you choose to pay for that is more of a capital decision.  If capital is cheap, I happily finance.  If is isn't, I try to reduce the borrowing.  There's nothing magical about a fixed payment over fifteen years.  My fixed 15-yr mortgage payment is $1,009 but if mortgages were more creative I could have agreed to something like $700 that went up a certain percentage every year for the term. 

[Telecaster]

Is the mortgage the inflation hedge, or the purchase of the house in the first place?  If you are paying $300K for your house, you are doing so to avoid rent payments that will inflate in the future.  How you choose to pay for that is more of a capital decision.  If capital is cheap, I happily finance.  If is isn't, I try to reduce the borrowing.  There's nothing magical about a fixed payment over fifteen years. 

With the mortgage you get get both.   You avoid increasing rent payments and you borrow in current full value dollars and get to pay it off with puny inflation-ravaged dollars.   

My mortgage is less than $800/month P&I.  When I got it, that was a lot of money.  Now it is chump change.  And yes, cost of capital matters.

[blue_green_sparks]

My 2.9% mortgage was a good thing. All good things come to an end, but in this case, it wasn't a bad thing when it ended.

[MustacheAndaHalf]

https://dqydj.com/sp-500-historical-return-calculator/
Another good resource is the DQYDJ historical return calculator. To use it for mortgages just don't adjust for inflation.

A 7.5% mortgage rate has tied or exceeded the S&P500 about 40% of the time out to 20 year periods. Under today's circumstances are we more likely in the 40% of cases where nominal stock returns are lower than 7.5% for the next 5-20 years? I think there is a good case for it.

Percentage Beating Annual Return over Period(s)
Length of Investment:30 Year   20 Year   10 Year   5 Year
90 %   6.385 %   5.803 %   3.400 %   -0.125 %
80 %   7.089 %   6.699 %   4.946 %   2.693 %
70 %   7.902 %   7.214 %   6.335 %   4.831 %
60 %   9.199 %   7.589 %   7.581 %   7.441 %
50 %   9.899 %   8.102 %   8.665 %   9.594 %
40 %   10.299 %   9.159 %   9.851 %   11.512 %
30 %   10.667 %   11.059 %   12.304 %   13.815 %
20 %   11.206 %   12.324 %   14.497 %   16.149 %
10 %   12.430 %   14.318 %   16.518 %   19.452 %

I wonder how long people stay in their home before selling.  I'd use half the numbers mentioned, assuming on average people are halfway between buying and selling their home.

https://www.thezebra.com/resources/home/average-length-of-homeownership/

The average length of homeownership years is eight years.
The median homeowner tenure is 13.2 years, a three-year increase over the last decade.

So half of 8 years is 4 years, which has a wide range of S&P 500 results (-69% to +278% total return).  You could argue the S&P 500 pulls ahead 58% of the time, but that ignores some pretty steep declines while holding a mortgage.  The variance is painful.

My expectation is that most people would refinance their 7.5% mortgages within 10-20 years, assuming they don't hit 1973-1982 again (with 6% inflation for 10 years).
https://www.macrotrends.net/countries/USA/united-states/inflation-rate-cpi

[Must_ache]

With the mortgage you get get both.   You avoid increasing rent payments and you borrow in current full value dollars and get to pay it off with puny inflation-ravaged dollars.   
My mortgage is less than $800/month P&I.  When I got it, that was a lot of money.  Now it is chump change.  And yes, cost of capital matters.

My point exactly, the mortgage only hedged against inflation at the cost of paying a lot more early on.  You didn't get some special deal for free, that payment stream was designed to collect $$ a certain % interest rate. 

[Must_ache]

A 7.5% mortgage rate has tied or exceeded the S&P500 about 40% of the time out to 20 year periods. Under today's circumstances are we more likely in the 40% of cases where nominal stock returns are lower than 7.5% for the next 5-20 years? I think there is a good case for it.

The current CAPE ratio is 28-29.

If you look here:
https://www.advisorperspectives.com/articles/2020/07/20/the-remarkable-accuracy-of-cape-as-a-predictor-of-returns-1

That chart predicts an S&P return of about 6% at those levels.

If you look here over a longer period of time: (1926-2017)
https://www.evidenceinvestor.com/the-shiller-cape-10-how-to-use-it-not-abuse-it/

That table predicts an S&P return of 1%-2%.

If you look here over an even longer period of time: (1871-)
https://bestinterest.blog/cape-vs-future-returns/

The historical range is -1% to +7%

So at these levels I would agree that the mortgage payoff looks like the better offer.  In the meantime hope that stocks go down and you can buy in at a lower CAPE ratio.

[Dicey]

Some folks think I only care about the DPOYM aspect of home ownership.  My primary goal is actually discussion, which is not allowed on the celebration threads. It makes my heart happy to see rational discourse on this thread. Making this important decision with a clear understanding of the pros and cons significantly affects the time to FIRE. Some people want to get to FIRE asap, others want to kill the mortgage first. I just want people to grok the value of compound interest in this decision and make an informed choice.

For the record, our primary home of 11 years never had a mortgage. We became FI when we got married. We sold two highly appreciated, long-time mortgaged properties that didn't suit our newly blended family's needs, and bought one together, without a mortgage. We still kind of regret doing that, but it was the most expedient option during a bidding war.

Our rentals are 7, 8, and 20 years old. We refinanced them about eight months before rates blew up. We do not intend to pay them off early, even though we easily could.

Not bragging, just illustrating that I understand both sides of the issue. It is my best hope that others will learn about the drawbacks of early mortgage payoff and make an informed decision.

I kind of chuckle when people wax poetic about how they will feel with a "paid off" home. There is absolutely no comparison to the joy of retiring early with more money that you ever dreamed possible. Given that this is the Mr. Money Mustache forum, isn't that everyone's goal?

[grantmeaname]

Edit: Sometimes I forget not to be an ass to internet strangers. Happy to walk this comment back.

[Dicey]

It's arrogant to assume that people who feel a different way than you about something subjective could only feel that way because they don't understand the facts as well as you do. The same thinking leads activists on the left and right fringes to wishcast that their unpopular policy priorities will magically become popular once passed into law, as if the middle of the electorate only disagrees with either fringe due to a lack of good enough information. It's entirely possible to grasp the math of mortgages and still feel that paying off a mortgage is the right decision, especially given that circumstances differ and many of us do not have extremely cheap 2011-era mortgages. It says a lot that you created enough of a storm in a thread about paying off mortgages that you were asked to keep it to yourself, and in response you now patrol every other mortgage related thread on the forum complaining about how you're a martyr and all you ever did was provide information to a bunch of rubes who weren't smart enough to figure out what you were saying. Please can we move on?

It's awesome that everyone gets an opinion and we love us some hyperbole here as well. You're 1000% right that it's possible, yet time and again, people don't understand the simple math. Comparing this discussion to something political isn't necessary or even appropriate, IMO. Nor is accusing me of arrogance and martyrdom, but you're free to offer your own opinion, as well as your version of the "facts". I post all over the forum about a lot of things, and generally try to be helpful. If you find that irritating, you can easily block me.

I know you host a very well regarded meet-up, so you know very well that as long as there are new listeners, subjects that have been covered before are worth reiterating.

If you disagree, please feel to report my post, and your reply, to the mods.

[Radagast]

It's more nuanced than that. You have to consider inflation, now that it's reared its ugly head again. It changes the calculations considerably. A mortgage is still an excellent hedge against inflation. Paying the fixed rate mortgage back with deflated dollars is powerful.

My numbers are consistent with respect to inflation. A mortgage is a hedge against inflation, but you need something to pay back those future dollars with.
 > A job is a great way to make future low value dollars to pay back the high-value mortgage dollars. For the next 30 years?
 > If you are going to own investments, they need to make more nominal dollars than your mortgage regardless of inflation to justify themselves.
 > Any form of bonds or cash is unlikely to come out to more than 7% in the future, though anything could happen. Longer term bonds will necessarily lose a lot of money before they start to make more, assuming high inflation-high rates are the future. Shorter term bonds most likely will not earn enough in the near term to average out above 7%.
 > While anything could happen with stocks as well, they aren't well priced to beat 7% over the next 5-20 years.
 > Rental properties... do the math but a 7% mortgage is a big headwind at current prices for most places.

[Radagast]

My expectation is that most people would refinance their 7.5% mortgages within 10-20 years, assuming they don't hit 1973-1982 again (with 6% inflation for 10 years).
https://www.macrotrends.net/countries/USA/united-states/inflation-rate-cpi

The ability to potentially refinance is powerful and big hole in my analysis.

[Morning Glory]

My expectation is that most people would refinance their 7.5% mortgages within 10-20 years, assuming they don't hit 1973-1982 again (with 6% inflation for 10 years).
https://www.macrotrends.net/countries/USA/united-states/inflation-rate-cpi

The ability to potentially refinance is powerful and big hole in my analysis.

Do you have to still have a mortgage to refinance though? Hypothetically if rates drop back to 4% and i want to do a cashout refi, would it matter to the bank if I'd paid my mortgage down to 10k or paid it off completely?

Asking because I honestly don't know. I've done refinances before but never taken large amounts of cash out.

[Dicey]

My expectation is that most people would refinance their 7.5% mortgages within 10-20 years, assuming they don't hit 1973-1982 again (with 6% inflation for 10 years).
https://www.macrotrends.net/countries/USA/united-states/inflation-rate-cpi

The ability to potentially refinance is powerful and big hole in my analysis.

Do you have to still have a mortgage to refinance though? Hypothetically if rates drop back to 4% and i want to do a cashout refi, would it matter to the bank if I'd paid my mortgage down to 10k or paid it off completely?

Asking because I honestly don't know. I've done refinances before but never taken large amounts of cash out.

Lenders mostly care about equity and your ability to pay it back. Refinancing a paid-for house comes with its own gotchas, which is why we never ended up getting a loan on our primary. IIRC, origination costs, title fees (!) and slightly higher mortgage rates were our stumbling blocks.

[Must_ache]

A mortgage is a hedge against inflation

There are multiple articles, including Kitces, that disagree with this initial premise:
https://www.kitces.com/blog/why-a-mortgage-is-not-actually-an-inflation-hedge-itself-but-can-provide-access-to-investments-that-are/

"The reality is that the “benefit” of owning a residence to hedge against the impact of inflation on rents is actually a function of owning the residence, not a function of having a mortgage. Owning a personal residence rather than renting provides the hedge against rent inflation, whether the residence is financed with a mortgage or not!

If in fact houses are overpriced (I think they are) then I would assert the opposite: that by overpaying for a house and financing at 7% you are INTRODUCING additional inflation into your financial situation.  If that house could be 25% cheaper a few years from now and your mortgage is 30% of your budget (when it would have been 22.5% a few years later), you just eradicated 7.5% of your budget by buying high.  Of course, that is just one possibility - I can't tell you a lot about house prices except they are extremely unaffordable relative to median incomes.  [insert  chart here]

The ability to potentially refinance is powerful and big hole in my analysis.

Or inability.  There is no guarantee that rates will come down significantly anytime soon, if at all.  It certainly isn't something you could predict and enter into your analysis.  I suppose you could consider one scenario where it happens and one where it doesn't, and speculate on the probabilities. 

7-8% is not an unusual mortgage rate historically.  Even if short-term interest rates come back down some, longer-term interest rates (which drive mortgage rates) are still significantly inverted (lower than short term rates) and have little if any reason to move in the near term.  They could certainly go up as we continue to issue mountain loads of debt in order to attract hesitant investors.

[Radagast]

A mortgage is a hedge against inflation

There are multiple articles, including Kitces, that disagree with this initial premise:
https://www.kitces.com/blog/why-a-mortgage-is-not-actually-an-inflation-hedge-itself-but-can-provide-access-to-investments-that-are/

"The reality is that the “benefit” of owning a residence to hedge against the impact of inflation on rents is actually a function of owning the residence, not a function of having a mortgage. Owning a personal residence rather than renting provides the hedge against rent inflation, whether the residence is financed with a mortgage or not!

If in fact houses are overpriced (I think they are) then I would assert the opposite: that by overpaying for a house and financing at 7% you are INTRODUCING additional inflation into your financial situation.  If that house could be 25% cheaper a few years from now and your mortgage is 30% of your budget (when it would have been 22.5% a few years later), you just eradicated 7.5% of your budget by buying high.  Of course, that is just one possibility - I can't tell you a lot about house prices except they are extremely unaffordable relative to median incomes.  [insert  chart here]

A mortgage is an inflation hedge conditioned upon having access to assets whose payments are in some way tied to inflation over the length of the mortgage.

Getting a mortgage is like issuing a bond. Therefore the answer to the question "is a mortgage an inflation hedge?" is exactly the same as the answer to the question "is inflation detrimental to holding nominal bonds?" If you have nominal assets/liabilities, then no. If you have "real" assets/liabilities, then yes.

While a bond is often viewed as losing to inflation, due to its fixed (at least with a conventional bond) payments that don’t change even if inflation arises, the reality is that a bond alone isn’t really detrimented by inflation. It’s not necessarily bouyed by inflation, but it’s not a detriment, either. -Kitces

Does Kitces still make sense if we modify his statement to say the same about bonds?

[joe189man]

We purchased a house this summer and we some how scored a 5.5% rate. We are planning on about 10 years to retirement so the question of whether to pay off our mortgage or save or retirement is an important one. Looking at the numbers, the amount we would pay extra to pay off the mortgage would yield about $40k more if saved and invested (assuming 6%).  Also just budgeting for the mortgage payment in our FIRE numbers could be an option.
Too many decisions...

[Radagast]

My expectation is that most people would refinance their 7.5% mortgages within 10-20 years, assuming they don't hit 1973-1982 again (with 6% inflation for 10 years).
https://www.macrotrends.net/countries/USA/united-states/inflation-rate-cpi

The ability to potentially refinance is powerful and big hole in my analysis.

Do you have to still have a mortgage to refinance though? Hypothetically if rates drop back to 4% and i want to do a cashout refi, would it matter to the bank if I'd paid my mortgage down to 10k or paid it off completely?

Asking because I honestly don't know. I've done refinances before but never taken large amounts of cash out.

Sorry I don't have personal experience or knowledge. What I have read is similar to what Dicey said: it is more expensive (higher rate or fee or larger loan for the same amount of cash out) to cash out refinance a home you own entirely than an existing mortgage.

[Radagast]

The ability to potentially refinance is powerful and big hole in my analysis.

Or inability.  There is no guarantee that rates will come down significantly anytime soon, if at all.  It certainly isn't something you could predict and enter into your analysis.  I suppose you could consider one scenario where it happens and one where it doesn't, and speculate on the probabilities. 

7-8% is not an unusual mortgage rate historically.  Even if short-term interest rates come back down some, longer-term interest rates (which drive mortgage rates) are still significantly inverted (lower than short term rates) and have little if any reason to move in the near term.  They could certainly go up as we continue to issue mountain loads of debt in order to attract hesitant investors.

As far as analysis, I didn't make any assumptions for refinance at all, except for the ability to interpret the % return table as a refinance. But it could potentially be done, so in reality holding the mortgage is probably a little more advantageous than the numbers show. Of course it's not possible to analyze the future.

The nice thing about refinancing is that even if rates averaged 9% over the next 10 years, if there was a single quarter with 4% rates then a refinance would cause a huge change in the numbers toward the keep the mortgage side. The ability to lock in any rate advantageous to you and ignore any not advantageous is a powerful ratchet.

[ChpBstrd]

The first is from MDM at the investment order thread: https://forum.mrmoneymustache.com/investor-alley/investment-order/

Pay off any debts with interest rates ~%3% or more above the current 10-year Treasury note yield.

The current treasury yield (as of writing) was 4.58%. Therefore, per forum wisdom, anyone with a rate >7.58% should be paying down their mortgage.

I just checked that thread, and @MDM 's post (the 2nd post on the thread) says:

     2. Pay off any debts with interest rates ~5% or more above the current 10-year Treasury note yield. 

Maybe this advice changed to 3% downthread, but it's not material to my main comment.

My main comment is investing in 10y treasuries and paying down a mortgage are both risk-free investments from the perspective of a US-based person with dollars and a mortgage, and who is taking the standard deduction instead of itemizing. The two investments are equivalent in risk. So why wouldn't we go the treasuries route if treasuries were yielding even a fraction of a percent more than the mortgage? Why does the treasury option have to clear a 3% or 5% hurdle for us to start considering it? Is that hurdle arbitrary?

Some possible arguments:

1) Liquidity: This favors investing in treasuries, because funds paid into a mortgage cannot be quickly accessed in case of emergency or opportunity.
2) Inflation Hege: This favors investing in treasuries. As investors discovered in 2022, nominal bonds can lose value if rates rise quickly. AGG lost 14% in 2022. However, the people who paid off their 4% mortgages instead of investing in treasuries need not gloat, because they are now missing out on the opportunity to lock in 5% yields for many years. That missed opportunity to arbitrage a 4% debt against a 5% risk-free yield was probably worth more in the long run than was saved by not investing in bonds in 2021.
3) Abandonment Option in Non-Recourse States: This favors investing in treasuries. If you just put 3% down on a house in a non-recourse state, what should you do if housing prices crash -25%? Walk away and let the bank have it! In this way, a mortgaged house has a put option on it, limiting your maximum losses, whereas a house owned outright has no limit to losses. This option may also have value if the house is severely damaged and insurance won't pay.
4) Sequence of Returns Risk: This favors investing in the mortgage. It has been mathematically demonstrated that your portfolio is more likely to survive a SORR event if you have less money and lower fixed housing costs, than if you have more money and higher fixed housing costs. Of course, I'm sure the advice has a crossover point where the house is so expensive or the mortgage payment so low that paying off the house leaves a person too vulnerable. But at normal house price to consumption values, the relationship holds. ERN used a $1M net worth, either a -$200k mortgage and +$200k extra in assets or no mortgage and only the $1M in assets, 4% WR, 2% inflation, and a 3.85% mortgage rate. A lot of those variables have changed since 2020.
5) Already Locked In Low Rate: This favors investing in the treasuries, and is no-brainer risk-free arbitrage. I'd choose this option anytime your mortgage rate < any duration treasury rate.

Invalid arguments:
1) Refi Opportunity: You can refi regardless of how much of your mortgage you already paid off. The amount you can refi is based on assessment, not existing mortgage balance.
2) Compounding: Aside from differences in the specific cashflows, compounding works both ways. E.g. you can reinvest the coupons from your treasury notes just like you can invest the savings from not having a mortgage. If the rates are the same, this is roughly a wash.
3) 25X or 4% Rules: This is invalid * in my opinion * because one should be optimizing wealth, risk, and inflation hedging, not rules of thumb. That means if it makes sense to have or keep a mortgage from an interest rates perspective, then your model for "when to retire" should account for the remainder of your mortgage payments and maybe make lower assumptions about the impact of inflation. This used to be hard, but is now easy thanks to sophisticated online retirement calculators that can account for mortgage payoff, social security, pensions, and other time-based changes.

The second is my own but fairly convention idea, pay down debts more than 1/CAPE10 + 10yr TIPS yield + 0.7%, which is historically the approximate return of the S&P500. 1/30+2.19%+0.7%= 6.22%. Per this rule, it is certainly time to be paying down the mortgage at today's rates.

Per these indicators, people with mortgage rates >7.5% and as low as 6% should be paying off their mortgages under these circumstances, certainly if they can do it with a lump sum. Depending on the liquidity and stability of the individual, it seems like many should also be putting money into the mortgage instead of investing in taxable accounts.

The problem here is we're comparing the prospects of a risk-free investment - paying down one's mortgage - with a far riskier investment in the stock market. Thus we're mixing (1) the issues discussed above for a decision between equally risky options with (2) a separate decision to increase or decrease the risk of one's AA.

The difference between expected and historical returns between bonds and stocks expands and contracts over time, so I'm reluctant to say a formulaic rule could cover all the scenarios where stocks are expensive/cheap, houses are expensive/cheap, mortgages are expensive/cheap, and alternative investments such as treasuries are expensive/cheap. I've seen various asset pricing models applying a fixed "equity risk premium" of 2% or 3% to compensate investors for the difference in risk between stocks and treasuries, but this does not guarantee any particular portfolio, which could encounter SORR and be devastated despite the premium. Risk is its own decision. 

[MDM]

The first is from MDM at the investment order thread: https://forum.mrmoneymustache.com/investor-alley/investment-order/

Pay off any debts with interest rates ~%3% or more above the current 10-year Treasury note yield.

The current treasury yield (as of writing) was 4.58%. Therefore, per forum wisdom, anyone with a rate >7.58% should be paying down their mortgage.

I just checked that thread, and @MDM 's post (the 2nd post on the thread) says:

     2. Pay off any debts with interest rates ~5% or more above the current 10-year Treasury note yield. 

Apples v. oranges:

2. Pay off any debts with interest rates ~5% or more above the current 10-year Treasury note yield.
...
7. Pay off any debts with interest rates ~3% or more above the current 10-year Treasury note yield. 

[VanillaGorilla]

4) Sequence of Returns Risk: This favors investing in the mortgage. It has been mathematically demonstrated that your portfolio is more likely to survive a SORR event if you have less money and lower fixed housing costs, than if you have more money and higher fixed housing costs. Of course, I'm sure the advice has a crossover point where the house is so expensive or the mortgage payment so low that paying off the house leaves a person too vulnerable. But at normal house price to consumption values, the relationship holds. ERN used a $1M net worth, either a -$200k mortgage and +$200k extra in assets or no mortgage and only the $1M in assets, 4% WR, 2% inflation, and a 3.85% mortgage rate. A lot of those variables have changed since 2020.

This is one of the few ERN analyses that I feel isn't sufficiently comprehensive. He models inflation as a fixed 2% but investment returns are corrected via CPI which unfairly penalizes the investor in a high inflation environment. It's easy to model a mortgage in cFireSIM by not adjusting withdrawals for inflation, and shows that a nominal 6% withdrawal rate is about as safe as a 4% inflation adjusted withdrawal rate. So if you have a 1M portfolio you can support a $60,000 per annual mortgage payment. Which means that you need a mortgage rate below about 4.2% to make it even reasonably safe to hold in retirement.

A 7% nominal mortgage rate is higher than the returns of a typical portfolio (TSM, 60/40, etc) about 25% of the time over a ten year window. Thus, if you want to minimize risk, pay off the loan. If you want to maximize potential returns, invest in equities. Pretty simple. Given the tenor of this subforum over the last several months, it seems that plenty of people don't have the stomach for equities in the long run. Paying down a mortgage is very safe by comparison.

[Must_ache]

A 7% nominal mortgage rate is higher than the returns of a typical portfolio (TSM, 60/40, etc) about 25% of the time over a ten year window. Thus, if you want to minimize risk, pay off the loan. If you want to maximize potential returns, invest in equities. Pretty simple.

Not if equities are expected to return <7%

[Morning Glory]

A 7% nominal mortgage rate is higher than the returns of a typical portfolio (TSM, 60/40, etc) about 25% of the time over a ten year window. Thus, if you want to minimize risk, pay off the loan. If you want to maximize potential returns, invest in equities. Pretty simple.

Not if equities are expected to return <7%

Nobody has a crystal ball. To "expect" equities to do anything is Thorstash- worthy hubris.

It sounds like 75% of the time it is better to keep the mortgage and 25% of the time it is better to pay it off, but you don't know what times those are until after the fact.

[MustacheAndaHalf]

2) Inflation Hege: This favors investing in treasuries. As investors discovered in 2022, nominal bonds can lose value if rates rise quickly. AGG lost 14% in 2022. However, the people who paid off their 4% mortgages instead of investing in treasuries need not gloat, because they are now missing out on the opportunity to lock in 5% yields for many years. That missed opportunity to arbitrage a 4% debt against a 5% risk-free yield was probably worth more in the long run than was saved by not investing in bonds in 2021.

Most people who hold individual US Treasuries do not mark to market - they ignore market losses.  When yields rise to 5%, nobody buys a 3% treasury at face value.  The 3% treasury loses value until it looks like a 5% treasury.

To benefit from higher yields, you would need to time the treasury market.  You would need a short term bond ladder so your money is both (1) not hurt as much by rising yields; and (2) available soon to buy new treasuries.  That raises the question of why you were only in short-term treasuries... and then suddenly take advantage of long-term treasuries at the right time.  In theory that might happen, but it may be harder in practice.

[Must_ache]

It sounds like 75% of the time it is better to keep the mortgage and 25% of the time it is better to pay it off, but you don't know what times those are until after the fact.

That might be true if you picked a random point in history or if asset pricings were average in terms of cost.  If however you knew that P/E values were elevated, there is a good chance the 25% would no longer apply.

[Must_ache]

Most people who hold individual US Treasuries do not mark to market - they ignore market losses.  When yields rise to 5%, nobody buys a 3% treasury at face value.  The 3% treasury loses value until it looks like a 5% treasury.

This is only relevant if you need to sell your holding.  If you hold it to maturity, you'll earn 3%.  Laddering would be an ideal way to avoid that scenario.  I have about $5K in duration losses in my portfolio; some of my interest rates are as low as 4.9%.  No big deal, if I don't sell that $5K will come back to me.  And if interest rates go down between now and then I'll get my $5K back and then some.

[Morning Glory]

4) Sequence of Returns Risk: This favors investing in the mortgage. It has been mathematically demonstrated that your portfolio is more likely to survive a SORR event if you have less money and lower fixed housing costs, than if you have more money and higher fixed housing costs. Of course, I'm sure the advice has a crossover point where the house is so expensive or the mortgage payment so low that paying off the house leaves a person too vulnerable. But at normal house price to consumption values, the relationship holds. ERN used a $1M net worth, either a -$200k mortgage and +$200k extra in assets or no mortgage and only the $1M in assets, 4% WR, 2% inflation, and a 3.85% mortgage rate. A lot of those variables have changed since 2020.

This is one of the few ERN analyses that I feel isn't sufficiently comprehensive. He models inflation as a fixed 2% but investment returns are corrected via CPI which unfairly penalizes the investor in a high inflation environment. It's easy to model a mortgage in cFireSIM by not adjusting withdrawals for inflation, and shows that a nominal 6% withdrawal rate is about as safe as a 4% inflation adjusted withdrawal rate. So if you have a 1M portfolio you can support a $60,000 per annual mortgage payment. Which means that you need a mortgage rate below about 4.2% to make it even reasonably safe to hold in retirement.

A 7% nominal mortgage rate is higher than the returns of a typical portfolio (TSM, 60/40, etc) about 25% of the time over a ten year window. Thus, if you want to minimize risk, pay off the loan. If you want to maximize potential returns, invest in equities. Pretty simple. Given the tenor of this subforum over the last several months, it seems that plenty of people don't have the stomach for equities in the long run. Paying down a mortgage is very safe by comparison.

It does feel like the forum has gotten more conservative. I wonder if it's partly because the more optimistic/risk tolerant Fire bloggers are less active now, so the new people learning about it are reading more conservative stuff because that's who is posting more often. ( When I became interested in Fire and did most of my reading on it I remember thinking ERN was quite conservative when compared to MMM, Mad Fientist, Go Curry Cracker, whichever other ones were around at the time. Frugalwoods is still posting but she was revealed to have a massive income behind the scene which rightly or wrongly seems to blunt her message about Fire being accessible to regular folks. I still like her reader case studies though. 

Do people still read blogs or is it all videos and podcasts now? I am very impatient with videos and podcasts so I don't know much about who is making them and what their risk tolerance is.

[VanillaGorilla]

I think the big name blogs ended up with so much money that they're harder to relate to. I still read them enthusiastically but there's less and less content. Which makes sense - ultimately FIRE is pretty simple and can be summarized in two sentences.

• Save 50-70% of your income and invest in total market equity funds until you have 25-30 years of expenses
• Retire with a modest bond allocation and withdraw 3-4% depending on your risk tolerance, additional income, etc

My theory is that FIRE then went mainstream and pulled in a bunch of personalities who are a lot less committed to any of the fundamentals - frugality, income generation, and aggressive investing. The latter camp was exposed with this current market. 100% equities sounds great to everybody until there's a blip. As witnessed on this forum, at the slightest whiff of a totally normal down market event people lost their nerve and made big moves away from equities, and of course they're the ones posting in every thread.

I miss the blogs. As I've learned more and more I'm gotten more critical of the content, but the only pre-FIRE blogs I know of right now are withering. I've also gotten less interested in reading about a 25 year old traveling the world on $20k per year. I suppose that's a me problem.

[Radagast]

1) Liquidity: This favors investing in treasuries, because funds paid into a mortgage cannot be quickly accessed in case of emergency or opportunity.
3) Abandonment Option in Non-Recourse States: This favors investing in treasuries. If you just put 3% down on a house in a non-recourse state, what should you do if housing prices crash -25%? Walk away and let the bank have it! In this way, a mortgaged house has a put option on it, limiting your maximum losses, whereas a house owned outright has no limit to losses. This option may also have value if the house is severely damaged and insurance won't pay.
4) Sequence of Returns Risk: This favors investing in the mortgage.
"equity risk premium" of 2% or 3% to compensate investors for the difference in risk between stocks and treasuries

I see all of these playing a role in MDM's rule. I've mostly seen the "equity risk premium" stated at 4%.
"Liquidity" I personally would refer to as "opportunity cost" because it feels to me like that could also refer to spending the money to improve your life if needed. If you save $400,000 and use $350,000 to pay down a mortgage, it's you do lose liquidity. But you also lose life options.

The problem here is we're comparing the prospects of a risk-free investment - paying down one's mortgage - with a far riskier investment in the stock market. Thus we're mixing (1) the issues discussed above for a decision between equally risky options with (2) a separate decision to increase or decrease the risk of one's AA.

Illiquidity is also a risk on the other side. To me opportunity cost and volatility are roughly balanced between the two options.

The difference between expected and historical returns between bonds and stocks expands and contracts over time, so I'm reluctant to say a formulaic rule could cover all the scenarios where stocks are expensive/cheap, houses are expensive/cheap, mortgages are expensive/cheap, and alternative investments such as treasuries are expensive/cheap. I've seen various asset pricing models applying a fixed "equity risk premium" of 2% or 3% to compensate investors for the difference in risk between stocks and treasuries, but this does not guarantee any particular portfolio, which could encounter SORR and be devastated despite the premium. Risk is its own decision.

MDM offered a rule of thumb, and I proposed a way to check if it was roughly in the ball park. You must have some opinion on where the mortgage payoff versus invest tipping point is, based on your other posts.  What is your tipping point between investing and mortgage payoff?

[grantmeaname]

The equity risk premium changes all the time but you can calculate it very simply - S&P500 (or total market) forward earnings yield minus a long term (~10 year) T yield or TIPS yield. Yardeni has a historical graph of it.

[MustacheAndaHalf]

Most people who hold individual US Treasuries do not mark to market - they ignore market losses.  When yields rise to 5%, nobody buys a 3% treasury at face value.  The 3% treasury loses value until it looks like a 5% treasury.

This is only relevant if you need to sell your holding.  If you hold it to maturity, you'll earn 3%.  Laddering would be an ideal way to avoid that scenario.  I have about $5K in duration losses in my portfolio; some of my interest rates are as low as 4.9%.  No big deal, if I don't sell that $5K will come back to me.  And if interest rates go down between now and then I'll get my $5K back and then some.

Maybe I misread ChpBstrd's post, but I thought he was claiming someone with treasuries could sell them and buy new 5% treasuries.

2) Inflation Hege: This favors investing in treasuries. As investors discovered in 2022, nominal bonds can lose value if rates rise quickly. AGG lost 14% in 2022. However, the people who paid off their 4% mortgages instead of investing in treasuries need not gloat, because they are now missing out on the opportunity to lock in 5% yields for many years. That missed opportunity to arbitrage a 4% debt against a 5% risk-free yield was probably worth more in the long run than was saved by not investing in bonds in 2021.

Most people who hold individual US Treasuries do not mark to market - they ignore market losses.  When yields rise to 5%, nobody buys a 3% treasury at face value.  The 3% treasury loses value until it looks like a 5% treasury.

To benefit from higher yields, you would need to time the treasury market.  You would need a short term bond ladder so your money is both (1) not hurt as much by rising yields; and (2) available soon to buy new treasuries.  That raises the question of why you were only in short-term treasuries... and then suddenly take advantage of long-term treasuries at the right time.  In theory that might happen, but it may be harder in practice.

[clifp]

My expectation is that most people would refinance their 7.5% mortgages within 10-20 years, assuming they don't hit 1973-1982 again (with 6% inflation for 10 years).
https://www.macrotrends.net/countries/USA/united-states/inflation-rate-cpi

The ability to potentially refinance is powerful and big hole in my analysis.

Do you have to still have a mortgage to refinance though? Hypothetically if rates drop back to 4% and i want to do a cashout refi, would it matter to the bank if I'd paid my mortgage down to 10k or paid it off completely?

Asking because I honestly don't know. I've done refinances before but never taken large amounts of cash out.

Short answer is no.

Longer answer is that often banks will give slightly better rates for a purchase, than a cash out refi.  It is very common that cashout refi are limited to 70% of the appraised value of the house (LTV) while purchasing can go to 80%.  This all depends on Fannie Mae/Freddie Mac guidelines which change quite often.  At the end of the day it won't matter if you have $10K mortgage balance or zero you are replacing and old mortgage with a new one.  If rates drop back to 4% (I personally think there is very little chance this will happen in the next 5 or even 10 year), there will be a wave of refinancing.

[firemane]

The way I look at this is relatively simple. I wouldn't borrow money at 7.85% interest to buy into an index fund at relatively high valuations, so I would pay off the mortgage (assuming I was taking advantage of tax sheltered accounts already).

It also depends a lot on the person. A more entrepreneurial person may have bigger plans with the money, in which case it does not make sense to pay off the 7%+ mortgage.

A regular w2 employee with a 3 fund portfolio, I would pay off the mortgage.

[Shuchong]

Some folks think I only care about the DPOYM aspect of home ownership.  My primary goal is actually discussion, which is not allowed on the celebration threads. It makes my heart happy to see rational discourse on this thread. Making this important decision with a clear understanding of the pros and cons significantly affects the time to FIRE. Some people want to get to FIRE asap, others want to kill the mortgage first. I just want people to grok the value of compound interest in this decision and make an informed choice.

@Dicey, I'm grateful that you keep pointing people towards the pros and cons.  When I bought a house last year, I really wanted the mortgage gone, because I don't like debt.  And my 5.375% rate felt high at the time.  You and a few other folks here convinced me that paying it down aggressively was not the best move, even though it *felt* like it. 

One year later, and I can get CDs that pay more than my mortgage interest rate.  Plus I'm in a situation (working part-time due to a chronic illness, with disability a possible outcome) where liquidity is important.  It took some time for me to accept that throwing money at the mortgage meant more of my eggs in one basket and effectively less diversification, and was not a sure-fire way to decrease risk in the face of possible job loss.