A common question in financial planning is whether you should invest more or aim to reduce your mortgage. Borrowing at a low interest rate and investing for growth seems like a sound strategy, as the idea is to repay the debt comfortably and build a nest egg at the same time.
This was the logic behind the popularity of endowments in the 1980s. Borrowers would take out an interest only mortgage and an investment product, with the aim of spending less on monthly repayments and having a little left over at the end of the term.
Of course, many investors found that their endowments fell short of the amount needed to repay their mortgage. Investing is never risk-free, but in many cases the risks were not adequately explained. High charges and complex investment products meant that achieving the required growth was always going to be challenging.
Today, we have more investment options, greater transparency and clarity over charges. It is also easier to track the value of your investment, and make corrections in plenty of time if it doesn’t perform as expected.
In theory, many of the issues that led to the endowment crisis no longer apply. It is always more risky to invest than to repay debt, but whether it is the right decision for you will depend on many different factors.
Reasons to Invest
There are several reasons why investing could be a better option than repaying your mortgage early:
Interest rates are low
Interest rates are currently at their lowest ever level, although that will probably not last forever. If your mortgage rate is 1%, and you can achieve average growth of 5% per year on your investments, investing is likely to leave you better off.
Investments usually increase over the longer term
Investments go up and down on a daily basis. It’s not unusual to see a drop in the value of your investment, especially in the short term. But over time, a properly diversified investment strategy is likely to produce higher returns than cash.
You will have more flexibility
If you repay your mortgage, you might not be able to borrow the same amount again. Even if you can afford to clear your debt, you may prefer to keep your options open.
You can cope with risk
Experienced investors understand that markets go up and down, but do tend to rise over the long term. They can cope with the fluctuations because they know that short term bumps are part of the plan and they won’t need the money for a long time. They do not panic and withdraw their investment when the market starts to fall.
