Mortgage or share returns

bwise

I hope my question can be answered with a simple 'yes' or 'no because...'! I think I know the answer but...

A BTL mortgage is £100,000 at 4% interest - £4,000 p.a.

Assume that a stocks and shares tracker returns a long term average 6% growth.

Assuming all income is taxed at 20% and no ISA, pension or tax free allowances apply.

Repay the mortgage gives extra £4,000 - £800 = £3,200 p.a. net income after tax.

Keep mortgage and put £100,000 in S&S gives £6,000 - £1,200 = £4,800 p.a. net income after tax.

The interest rate is a known value and future S&S returns are unknown. But in simple terms it looks to make sense to keep the mortgage and invest in S&S so long as the interest rate is less than the expected X% return on S&S. But if the interest rate is higher than the expected X% S&S return, then at that point a better return is achieved by repaying the mortgage.

Is the logic right?

Thanks!

Thrugelmir

There's no such thing as a guaranteed return.

• BTL is a business
• Will shares continue to grow at 6% in the current econmic climate. The old adage of past performance etc.

bwise

Thrugelmir wrote: »

There's no such thing as a guaranteed return.

• BTL is a business
• Will shares continue to grow at 6% in the current econmic climate. The old adage of past performance etc.

Thanks for replying. I do understand that (I said "The interest rate is a known value and future S&S returns are unknown.")

My question asks for an answer based on the assumptions stated.

Lokolo

Then yes you are correct. It's the same for non-investors and cash - do you save or overpay. If the mortgage rate is greater than savings rate, overpay, otherwise save (within reason, you should always have a backup plan incase of job loss etc.)

bwise

Thank you Lokolo. That is what I thought but good to have it confirmed!

jimjames

bwise wrote: »

Keep mortgage and put £100,000 in S&S gives £6,000 - £1,200 = £4,800 p.a. net income after tax.

The interest rate is a known value and future S&S returns are unknown. But in simple terms it looks to make sense to keep the mortgage and invest in S&S so long as the interest rate is less than the expected X% return on S&S. But if the interest rate is higher than the expected X% S&S return, then at that point a better return is achieved by repaying the mortgage.

You also need to take account that the S&S return isn't all income. You may get 3-4% income which is more static and then capital growth (or loss) on top of that. So assuming a simple x amount of income per year isn't quite that easy.

Ryan_Futuristics

Using that same logic, *some* people do advise taking out a (say) £100k fixed rate loan to invest in the market while you're young, knowing it's likely to produce better returns

And if you only bought when the market was cheap (or only bought cheap global markets), 6% should be a very conservative return

But the question is: in that situation, would you still do it?

Let's go with the 6% return and say it's only likely to return 2% over the interest on your mortgage

Personally, I don't think the upside is enough to justify the not-unrealistic possibility of a 10-to-20-year bear market killing your capital investment, while the compound interest on your mortgage swells ... For that reason: I'd always clear debts first

bwise

Ryan_Futuristics wrote: »

Using that same logic, *some* people do advise taking out a (say) £100k fixed rate loan to invest in the market while you're young, knowing it's likely to produce better returns

And if you only bought when the market was cheap (or only bought cheap global markets), 6% should be a very conservative return

But the question is: in that situation, would you still do it?

Let's go with the 6% return and say it's only likely to return 2% over the interest on your mortgage

Personally, I don't think the upside is enough to justify the not-unrealistic possibility of a 10-to-20-year bear market killing your capital investment, while the compound interest on your mortgage swells ... For that reason: I'd always clear debts first

Yes, there could be a 20 year bear market - but there could equally be a revolution and confiscation of property. Which is why my question stated that future S&S returns are unknown but asked for an answer in terms of the logic based on the assumptions stated: if S&S returns X% and mortgage interest is Y%, excluding all other factors is the logic of choice correct.

However in any case I'm not sure that's right to focus on compound interest swelling the mortgage as inflation reduces the mortgage value in real terms over time. But I didn't want to cloud the issue by including inflation and other factors.

bwise

jimjames wrote: »

You also need to take account that the S&S return isn't all income. You may get 3-4% income which is more static and then capital growth (or loss) on top of that. So assuming a simple x amount of income per year isn't quite that easy.

Yes you may get all sorts of returns or losses. But in the absence of a crystal ball I just wanted to check the logic putting aside all the potential unknowns.

For the purposes of my question, you can choose to insert any % S&S return you like as long as it is the total return, or any % interest rate. Essentially the question is asking if the mortgage interest rate is X% and the S&S return is Y%, excluding all other factors, if X is more than Y, pay off the mortgage, if X is less than Y, invest the money in Y.

AndyT678

I think your logic is fine.

I have a mortgage and I have investments. I could liquidate my investments and reduce my mortgage but I choose not to because I think the investments will offer a better return and I can comfortably service my mortgage from my salary.

Yes there are risks but sometimes you just have to accept some risk.

Ryan_Futuristics

bwise wrote: »

Yes, there could be a 20 year bear market - but there could equally be a revolution and confiscation of property. Which is why my question stated that future S&S returns are unknown but asked for an answer in terms of the logic based on the assumptions stated: if S&S returns X% and mortgage interest is Y%, excluding all other factors is the logic of choice correct.

However in any case I'm not sure that's right to focus on compound interest swelling the mortgage as inflation reduces the mortgage value in real terms over time. But I didn't want to cloud the issue by including inflation and other factors.

Well a 10-20 year bear or flat market is far less unlikely

In simple maths, yes, 6% is better than 4%, but every investment decision is risk vs return - so as soon as you take risk out of the equation ("assuming" or averaging anything) you're not really talking about the markets anymore

Inflation will also reduce your stock market returns ... You're basically investing against borrowed money - rather than a 6% return against capital loss, you're risking a 2% return against a mounting debt ... (Plus your banker's still doing better out of this deal than you are - receiving 2/3rds of your stock market returns while you take a 200% leveraged risk?? The banker's the only smart investor in this scenario)