Should I pay down my mortgage or contribute more to investments? (Article)
Should I pay down my mortgage or contribute more to investments?
Ultimately the answer to this question is “it depends”. It depends on your risk tolerance, your stage of life, mortgages rates, economic conditions, your investment strategy, and more. Confused, don’t worry about it. The good news is there’s no wrong choice.
The Standard & Poor’s 500 Index (S&P 500) is a market-capitalization-weighted index of 500 large companies publicly traded in the U.S. Often considered the benchmark measure for annual stock market returns, its historic annualized average return (including dividends) is around 11.88% since the inception of its current form in 1957 through the end of 2021. However, when adjusted for inflation over this same period, the number is closer to 8.5%. Also, this number doesn’t take into consideration your own risk tolerance and subsequently more modest investment strategy. By comparison the fixed rate on a thirty-year mortgage has averaged 7.48% since 1972 according to FreddieMac.
If we compared just these two numbers, we might draw the conclusion that it was better to contribute discretionary income to the stock market than pay extra on your mortgage, but these two data points don’t tell the whole story. For while these are the averages, there have been decades when the volatility of markets and variability of politically influenced bank rates have strayed far from the averages. For example, the average fixed rate on a thirty-year mortgage for the decade 1998 and 2008 was 6.47%, while the annualized average return for the S&P 500 during this same period was only 3.17%.
Another comparison we might make is regarding risk. One might think that a fixed rate mortgage represents little risk compared to the stock market but imagine what would happen if you were to be out of work for a prolonged period. Your friendly mortgage banker will have no qualms about foreclosing on your home if you get behind on your payments. “But I can always pull money from my investments” you might say, but if the reason for your job loss is a prolonged recession, then the market will likely be in a deep correction too. By this measure then, it probably seems better to pay off your mortgage rather than contribute to the stock market.
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