Disclaimer: I am not a Financial Advisor. These are just my opinions. Before making any big financial decisions, please discuss it with a financial professional.
Should I pay down my mortgage or invest in the stock market. This is a question I have often thought about so thought I’d write about it. There’s definitely no one right way, it really depends on what’s more important to you and what makes you feel better. Let’s look at it both ways and I will share what I would do.
Paying off your mortgage – this can be very satisfying and emotionally freeing as that big 800 pound gorilla is no longer sitting on your head. Paying off the contractual obligation, frees you up to do what you want to do as your risk goes down significantly. While we didn’t do this, we did refinance a property we owned before and as part of that, paid down a big chunk of the loan. It really freed us up on a monthly basis, both mentally and financially to have a lower mortgage. For our current home, while I was working full time, I always tried to pay a couple of 100 dollars extra towards the principal but usually not large sums as mortgage APRs (assuming you got it in the last 5 years) has been between pretty low, 3-4% (see table below *). Today if I make any free money from selling all the excess stuff we have at home, I put it towards an extra payment for mortgage.
| Year | Lowest Rate | Highest Rate | Average Rate | |||
| 2018 | 3.95% | 4.94% | 4.54% | |||
| 2017 | 3.78% | 4.30% | 3.99% | |||
| 2016 | 3.41% | 4.32% | 3.65% | |||
| 2015 | 3.59% | 4.09% | 3.85% | |||
| 2014 | 3.80% | 4.53% | 4.17% | |||
| 2013 | 3.34% | 4.58% | 3.98% | |||
| 2012 | 3.31% | 4.08% | 3.66% |
Invest in the stock market
My preference has always been to invest in the stock market. The reason for this is the mortgage rates are low and the capital or the money that you would put towards paying back your mortgage could get a better return on investment in the market. Below is a table that looks at the historical returns from the S&P 500 composed of the top 500 stocks in the market. It functions as a good proxy for the entire market. As you can see from 2012-2018, the rate of return on average is much higher if you invested in the stock market. But wait, I know you are thinking, you are only looking at 5 years after the recession so of course the numbers are going to look good!
| Year | Percent (%) Return |
| 2012 | 16.0 |
| 2013 | 32.4 |
| 2014 | 13.7 |
| 2015 | 1.4 |
| 2016 | 11.9 |
Looking at the historical returns of the S&P 500 since 1930 (see chart below **), it becomes clear that over the long term, the S&P 500 always increases which leads us to a couple of key principles of investing.
- Invest for the long term – As you can see in the chart, while the S&P 500 has risen over the long term, there have been major downturns along the way. Some of these downturns have taken 10-15 years to reverse but have then risen to new highs. It’s important to be able to have the courage and the financial backing to hold on when times get tough and not panic and sell. This is also when that 6-12 month emergency fund comes into play!
- Don’t try to time the market but if the stock market is on sale and you have extra funds, this is the time to invest – Why? If you invested $1 in 2009 in the S&P 500, it would be $3.45 today, with a 13.49% annual return***. A $1 invested in 1998 would be $3.82 with an annual return of 8.18%***. You could have made almost the same amount of money in the last 10 years as in the last 20 years. And now the $1 that you could have used to pay off your mortgage has more than tripled so you can pay off your mortgage and still have money left to support your lifestyle. Check out this great tool to look at historical returns.
- Diversify your portfolio – Don’t put all your eggs in one basket by picking stocks. It’s been proven multiple times that you can’t beat the market. As a result, I prefer to invest in low cost index funds that mimic the entire market. My preferred choice is Vanguard Index funds (VTI, VTSAX, VFINX).
- Asset Allocation by Age – When you are younger, you can put a lot of your portfolio in stock index funds as you have the advantage of a long investment horizon. If the market drops, you can wait it out. But as you grow older, if the market drops and you lose 30-40% of your portfolio value right before you retire, you may not have time to let it recover. You maybe depending on this money to live. It is also at these times, that you are more likely to panic. So it is important to change your portfolio mix, weighting it with more bonds and less stocks as you age. The general rule of thumb is to subtract your age from 100 and that’s the percentage, you invest in stock funds. So if you are 40, you would have a portfolio of 60% stock funds and 40% bond funds. Again this is where speaking with a fiduciary financial professional comes in.
- The 4% Rule for Withdrawal – If you are withdrawing from your portfolio to pay for your lifestyle, it’s important to keep the 4% rule in mind and not withdraw more than that. This will allow your investment to recover after the downturn.
So to answer the question clearly, instead of actively trying to pay off our mortgage, I try to invest in low cost, stock market index funds since I have a 20-30 year investment horizon. I do try to pay a little extra every month to our mortgage principal but I do that more for emotional satisfaction.
I’d love to hear from you. How do you think about this question? Feel free to leave comments or send me an email.
Sources:
* https://www.valuepenguin.com/mortgages/historical-mortgage-rates
** https://www.macrotrends.net/2488/sp500-10-year-daily-chart