How much of your house should you finance?

[gobears]

I am in a quandary about whether to payoff my home mortgage and am hoping to find some advice. Here is the situation:

(1) We live in the SF Bay Area and own a house with 20% equity (as of last month). We pay 6.65% interest on the jumbo loan. I have enough cash in short-term US treasuries to payoff the remaining 80% loan. The short-term treasuries yield a pittance.
(2) In addition to the cash to cover the loan, we also have some investments in commodities, gold, and energy plays, and an additional rainy day fund.

As you can imagine, every month I am losing a few thousand dollars to cover the spread between the short-term treasuries and mortgage. Here is what I am considering:

Option A: Should I pay off the mortgage and be 100% debt free?

Option B: Continue to pay mortgage, waiting for inflation to takeoff. Then, dump the cash into a long-term treasury at a rate much higher than the loan? Or, when nobody can get/afford loans, use the cash to buy assets at great prices. Maybe this is unrealistic?

Option C: Invest the cash into inflation hedges and/or forex and make a killing on inflation (at the same time we are afraid of getting killed in a 1930's style deflationary depression).

I guess quite a few folks face a similar decision. To what extent to use your home mortgage as leverage? What is the right balance of mortgage debt to other investments in this environment?

Would really appreciate some thoughts on this matter.

[medved]

Re: How much of your house should you finance?

I am in a quandary about whether to payoff my home mortgage and am hoping to find some advice. Here is the situation:

(1) We live in the SF Bay Area and own a house with 20% equity (as of last month). We pay 6.65% interest on the jumbo loan. I have enough cash in short-term US treasuries to payoff the remaining 80% loan. The short-term treasuries yield a pittance.
(2) In addition to the cash to cover the loan, we also have some investments in commodities, gold, and energy plays, and an additional rainy day fund.

As you can imagine, every month I am losing a few thousand dollars to cover the spread between the short-term treasuries and mortgage. Here is what I am considering:

Option A: Should I pay off the mortgage and be 100% debt free?

Option B: Continue to pay mortgage, waiting for inflation to takeoff. Then, dump the cash into a long-term treasury at a rate much higher than the loan? Or, when nobody can get/afford loans, use the cash to buy assets at great prices. Maybe this is unrealistic?

Option C: Invest the cash into inflation hedges and/or forex and make a killing on inflation (at the same time we are afraid of getting killed in a 1930's style deflationary depression).

I guess quite a few folks face a similar decision. To what extent to use your home mortgage as leverage? What is the right balance of mortgage debt to other investments in this environment?

Would really appreciate some thoughts on this matter.

This is a question of risk management. I think, keeping the balance of your mortgage in TBills is too much. This seriously increases your inflation exposure. Looking at your other investments, I would say, you are on the right track. I keep no more, than a quarter of my mortgage balance in cash. I also keep about half of my balance in the Permanent Portfolio Fund - PRPFX (what I call "long-term cash"). Since 2001 it sailed through all kinds of market turmoil with flying colors at relatively steady 13% a year, which is about double of the mortgage rate.

Other than that, just keep reading iTulip and learn to be a good speculator. The days of "investment" are over.

[BiscayneSunrise]

Re: How much of your house should you finance?

I think it also depends on your current income.

If you can continue to comfortably make your mortgage payment from current income, the continue to do so and invest your cash.

If you are convinced the housing market will deflate in your market, then consider selling and either buying into something smaller or renting. No sense being leveraged on a depreciating asset. If housing inflation kicks in suddenly, you should be able to re-enter the market.

Finally, compromise and pick the middle ground. Re-finance your current mortgage so the monthly payment is the same as what you would be paying for rent and then invest what is left over.

[Jeff]

Re: How much of your house should you finance?

I'm in a similar position, and it drives me nuts. I got 15 year fixed mortgages on a few houses, rather than paying cash and put the cash in short term T bills, and waited for POOM or inflation or whatever to make it look like a good move. I'm starting to feel like a chump.

I still think I'll be right in the long run, but you know what a real economist once said, in the long run we're all dead.

[santafe2]

Re: How much of your house should you finance?

I am in a quandary about whether to payoff my home mortgage and am hoping to find some advice. Here is the situation:

(1) We live in the SF Bay Area and own a house with 20% equity (as of last month). We pay 6.65% interest on the jumbo loan. I have enough cash in short-term US treasuries to payoff the remaining 80% loan. The short-term treasuries yield a pittance.
(2) In addition to the cash to cover the loan, we also have some investments in commodities, gold, and energy plays, and an additional rainy day fund.

As you can imagine, every month I am losing a few thousand dollars to cover the spread between the short-term treasuries and mortgage. Here is what I am considering:

Option A: Should I pay off the mortgage and be 100% debt free?

Option B: Continue to pay mortgage, waiting for inflation to takeoff. Then, dump the cash into a long-term treasury at a rate much higher than the loan? Or, when nobody can get/afford loans, use the cash to buy assets at great prices. Maybe this is unrealistic?

Option C: Invest the cash into inflation hedges and/or forex and make a killing on inflation (at the same time we are afraid of getting killed in a 1930's style deflationary depression).

I guess quite a few folks face a similar decision. To what extent to use your home mortgage as leverage? What is the right balance of mortgage debt to other investments in this environment?

Would really appreciate some thoughts on this matter.

This is an interesting question. Let's assume for the moment that your house is more than an investment, it's your home and you're just wondering how much it's really costing you each month to pay your mortgage instead of paying it off.

And another assumption: If your home is worth $1,000,000, at 80% loan to value you owe $800,000. Your numbers may be different but the principle is the same.

At 6.65% your payment is ~$5,135.00 if you have a 30 year loan. ~$4,435 is interest cost and $~700 is principal buy-down. At current short term CD rates you'll get about 3% or ~$2,000. The mortgage payment is deductible and I'm assuming that you have an aggregate tax bracket of ~40% and don't have an AMT problem. This makes your actual mortgage payment ~$2,661. If we deduct the same 40% from your profit on your CD you net $1,200 so your real cost is $1,461 per month.

That's a lot of money but the problem is not the money, the problem is that you're managing a minimum amount of risk with a huge insurance policy, (who's premium is currently $1,461 a month).

Scenario A: Pay off the house. Another way to look at this is to think of making a large investment in a depreciating asset. If you were almost positive that equity "X" would decrease in value by 10% over the next couple of years, would you make the investment? I would not. This is apparently not an ideal solution in today's real estate market.

Scenario B: Do something else with your money. Your mortgage after tax write off is costing you ~$2,661, (or about 4% instead of 6.65%), and in our scenario, you have $800,000 in cash with which to off-set this cost. I like your odds at doing better than break even with a sound investment program. Remember, your primary asset is most likely depreciating and it would be nice to off-set that depreciation with good investments in other products.

Scenario C: Gamble. Personally, I would go to Las Vegas if I had a need to gamble. At least they treat you nice while their taking your money.

The great flaw I see in your first two scenarios is that they limit your choices to a terrible investment and a bad investment. What you've done is framed the issue within a context where you either lose a lot of money or a moderate amount of money.

A better answer will be to find an investing professional who can guide you into a diversified portfolio of munis, preferred stocks, etc., etc. If giving up control of your money is not an option for you, continue to pay your insurance premium until short term rates move up.