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Yeah, it's probably people's
largest monthly or recurring payment
00:00:05
is that mortgage.
00:00:06
And it's there for,
you know, 10, 15, typically 30 years.
00:00:11
So it's it's definitely a stressor
from a psychological standpoint.
00:00:16
But I think if people understand
the mechanics, the basic
00:00:20
finance of of a mortgage
and the broader picture of their finances,
00:00:24
it can be less of a stressor
and actually become a potential asset.
00:00:29
Welcome to the Ripple Effect,
00:00:30
the podcast that takes you on a journey
through the minds of work and faculty.
00:00:34
I'm your host, Melanie,
00:00:36
and in each episode will be diving deep
into the inspiration
00:00:39
behind the groundbreaking research
that Wharton professors have conducted
00:00:43
and exploring how their findings
resonate with the world today was.
00:00:48
We have hit the New Year.
00:00:49
Many people look to make changes
in their lives so that they can have
00:00:53
a better lifestyle, but that can cover
a variety of different elements.
00:00:58
And when you think about one's finances,
00:01:00
you can look at so many other
different things to improve
00:01:04
your financial health, even something
like paying off your mortgage.
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Michael Roberts is a professor of finance
here at the Wharton School.
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Michael, great to have you in the studio.
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Great to be here.
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So the element of paying off the mortgage,
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obviously, is something
that so many people deal with.
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But right now,
it's probably even in more focus of
00:01:23
being able to handle it, especially with
how interest rates have gone up.
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And that can obviously provide
a lot of stress for people.
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Yeah, it's probably
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people's largest monthly
or recurring payment is that mortgage
00:01:37
and it's there for,
you know, 10, 15, typically 30 years.
00:01:42
So it's it's definitely a stressor
from a psychological standpoint,
00:01:48
but I think if people understand
the mechanics, the basic
00:01:52
finance of of a mortgage
and the broader picture of their finances,
00:01:57
it can be less of a stress or
and actually become a potential asset.
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How so?
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So, you know,
I'll use myself as an example.
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We had bought a home seven
or eight years ago
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and had refinanced into a mortgage
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that was 2.75%.
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Oh, God bless you.
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Forget forgetting that low mortgage.
Yeah. Yeah, yeah.
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We then sold the house,
but that's another story.
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So? So we had a 2.75% mortgage.
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Now, you know,
three, four, five, six years ago,
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that was certainly low,
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but it wasn't low relative
to what I could invest money in and earn.
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Basically a guaranteed
or very safe return.
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Right.
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If I put it in Treasuries,
I wasn't earning 2%.
00:02:43
I was lucky to get one. Yeah.
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Okay.
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But fast forward
now, three years to today.
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And if you're sitting on a 2.75% mortgage
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and interest rates
on Treasury securities for example,
00:02:57
or CDs are above five, well,
that's an opportunity.
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Sure. Right.
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So, you know, you want to
you want to think about a mortgage which,
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you know, as rationally as we can
in terms of our opportunity cost.
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Right.
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If I'm paying 2.75 on a mortgage
that I originated five, ten years ago,
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and now I can earn five
plus basically guaranteed.
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There's really no incentive for me to pay
that mortgage down.
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I'd be throwing away money effectively.
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Yeah.
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How much do people consider
the elements of the benefit
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that they can gain from
that type of scenario?
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Because I,
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I wonder if sometimes that's an element
that is missed along the way at times.
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It is, and understandably so, because,
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you know, ultimately
that decision is a broader trade off.
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It's not just a simple well,
you know, I'm paying 275.
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I can earn five.
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It's obvious we need to think about
tax implications right.
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Because I've got to pay taxes
on any of my earnings. But
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as much as it pains me
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to admit it,
I have to because it I see it in myself.
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You know, there's a psychology
magical value to not having
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what what academics
like to call debt overhang and Simpsons.
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Right.
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Being free and clear on the house
and not having to make
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that monthly mortgage payment.
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There's a there is a real psychological
benefit to that.
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And depending upon your personal makeup,
that might outweigh the additional money
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you could be making by
not paying it down more quickly.
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And I guess it really ends up
being the individual's decision,
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what their scenario is,
because even something like paying off
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an extra $100
a month mortgage on your mortgage
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can be such a benefit longer term
when you when you look down the road,
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no doubt about it,
you'll you'll shorten that mortgage rate.
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So you will be free and clear sooner.
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But but I worry
that some of the other benefits of
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of not paying down that mortgage
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and investing or saving that money
sometimes get lost in the discussion.
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You know, one of the one of the issues
with paying that mortgage down
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quickly is
you're basically investing in the house.
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Right.
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That's you're reallocating your investment
from a stock
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stock market, bond market,
whatever it it may be into real estate.
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And that can create problems.
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Number one, you can become
incredibly under diversified, right.
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If all your wealth is sitting
in that house and anything happens
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to that one asset, you got a big problem.
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But number two,
that's a highly illiquid asset.
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So you start plowing all that savings
into the house
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and something bad happens, you know,
medical emergency, whatever it may be.
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And you need money.
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You've got a problem. Right.
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And in many cases,
there's just not the flexibility
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with paying
into that or paying extra into that
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than, say, you know, having the savings
in a in any other type of account.
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Exactly.
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I can sell stocks instantly
or bonds instantly.
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So you give up a lot of liquidity.
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You give up some diversification benefits
when you go all in on the home side.
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I think people need to think
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about these other considerations
in the context of their broader portfolio.
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It's also,
I guess, part of the larger discussion
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about the element of saving
that we have right now.
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And in many cases,
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this is a larger discussion
about when we are younger
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about financial literacy at younger ages,
when kids are coming up through school
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so they can be prepared for
when they go out and get that first job.
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There's an element of that understanding
that really plays a huge factor,
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isn't there?
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Yeah, look, I mean,
one of the first things we do when we talk
00:06:37
about financial literacy is, is
we show the power of compounding, right?
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Saving $100 for me, now that I'm over 50.
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You know,
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has a much smaller effect than had
I saved that save $100 when I was 21.
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Sure.
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And so just that basic understanding,
you know, not not a deep,
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intricate knowledge of all the details
of finance, but just a basic understanding
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of some basic financial principles
when you're in high school or college
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can pay massive dividends, pun intended,
going forward.
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For years.
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It just it's a huge stress reducer. Yeah.
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Are you a believer that
that the beginning of the year is really
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a good time of the year
to take a stake of of where you are
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and to kind of either adjust the plan
that you have or kind of,
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you know, look longer term at the changes
you need to make.
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Yeah, it doesn't
have to be beginning of the year.
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But if that's what motivates people,
then by all means, yes,
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I think a more disciplined approach.
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You know, every quarter,
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once every quarter, once every year
to just take stock of, you know,
00:07:45
where your finances are, you know, what
where your expenses are headed
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and whether or not you have
00:07:51
enough liquidity today and whether or not
you'll have enough savings in the future.
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It's it's always a good time
to have a look at that.
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Now, that's costly, right?
I mean, we're busy people, sure.
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But if we can do that,
you know, a few times a year
00:08:04
away, again,
it's just going to have huge benefits.
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And most likely what you're also doing
at the same
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time is if you do it on a regular basis,
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especially if you're somebody
that maybe hasn't had that background
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in the past of doing it
and then gaining the greater understanding
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gives you that benefit over the next
five, ten, 20 years
00:08:25
where you're able to make changes
that can benefit you longer term.
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I mean, again, whether you're 50 or 20,
there are elements of that
00:08:33
that will play in
no matter what age you are.
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No, absolutely.
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In fact, in fact, what what I do is
I pay bills once a month on.
00:08:42
And when I pay bills, rather than just
paying the bills, I pay the bills.
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And then I just do my budgeting
and look at my investments
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and make sure nothing weird is happening
there.
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There's no great science to it. It's
just a way to discipline me.
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So instead of spending 10 minutes
paying bills,
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I spend an hour just sort of looking at
what's going on.
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So you do that on a monthly basis
once a month, even with the investments?
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Yeah, absolutely.
00:09:06
Now, I'm not doing anything fancy
with my investments.
00:09:09
I'm simply looking okay,
Am I on on course to where I need to be
00:09:15
when I retire or even before that,
You know, where my kids go to school?
00:09:19
Go to college, Right.
00:09:20
Am I on track?
If not, what do I need to do?
00:09:23
I need to save a little bit more.
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Can I spend a little bit more?
Yeah, these sorts of things.
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What's the advice that you give for
those people that are maybe having issues
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doing that right now?
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What's the path that they maybe
need to consider, do you think?
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Okay.
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So, so my path to doing
that was pure necessity.
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I basically got very lazy,
didn't look at my finances, didn't
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think about what I was making
and what I was spending, and frankly,
00:09:48
ran into trouble.
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Now, fortunately, I married
someone far more successful than myself,
00:09:53
and so it really wasn't
00:09:54
a big deal for the family,
but it was a big wake up call for me.
00:09:58
So rather than people having
00:10:00
that sort of slap in the face,
I think just the next time you're paying
00:10:04
your bills is to just pause
and take a look at the bigger picture.
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Again, it's an hour at most. Yeah.
00:10:11
And I think the other scenario
that's being talked about a lot now
00:10:15
is the rise in credit debt and the concern
00:10:18
that maybe we have as a country right now
on that rise
00:10:22
and what that may mean over
the next 12 to 18 months.
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Yeah, I mean, I'm not going to get into
forecasting the macro economy.
00:10:31
I'll leave that to Jeremy,
who's much better than me at that.
00:10:35
But but what it does mean is,
00:10:38
you know, if you're looking for a house
now, you're paying 7%.
00:10:41
You know, if you're lucky, maybe six.
00:10:44
And while there's lots of talk about,
well,
00:10:45
don't worry about it,
interest rates are going to go down.
00:10:48
Well, look, if we knew where interest
rates were headed,
00:10:52
we could make a ton of money.
00:10:53
The reality is
we don't know what's going to happen.
00:10:56
So the real question is, are
we prepared for what may happen in terms
00:11:00
of how much money we have on hand,
how much we have saved, etc..
00:11:05
But even
00:11:06
where interest rates are right now,
I think the the safe expectation is
00:11:11
we're not going to see two and three
quarter 3%, three and a half percent,
00:11:16
maybe for a long, long time.
00:11:18
So at least you can put that level
of expectation in there
00:11:21
right now
with maybe some some wiggle room in there.
00:11:24
100% agree with that.
00:11:26
And in fact, my parents,
I remember them paying
00:11:29
21% on their mortgage in 81
when rates were up at 15, 16%.
00:11:34
Yeah.
00:11:35
So, you know, 7% people feel the world's
falling apart hardly
00:11:40
on a historical perspective,
that's not terribly high.
00:11:43
How often do you think people think
about their home as an investment?
00:11:48
Do they do they think about it enough?
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No, not often.
00:11:51
And that's why I brought up those
two points earlier that you need to think
00:11:55
about your home as part of your savings,
your investment portfolio.
00:11:59
And so any equity in there,
that's an investment.
00:12:02
It's a risky investment
and it's an illiquid investment.
00:12:05
Yeah.
00:12:06
And I think the other part to
00:12:07
it is when you go back to the time of the
pandemic, when we saw so many
00:12:12
when we saw home prices rise as quickly
as we did,
00:12:15
I think people bought
into the incredible value that was added
00:12:19
to their properties and the fact
that it was going to be there forever.
00:12:22
There's never a guarantee
that that's going to be the case.
00:12:25
No, I mean,
if we just have to go back to 2000,
00:12:28
2008, 2009
and the great financial crisis, yeah,
00:12:33
real estate values can fall
and they can fall dramatically.
00:12:37
What about the psychological benefits
of having a focus on your
00:12:41
on your investments, on your funds,
on your savings, and the benefit
00:12:45
that that can provide you of being on top
of that of being truly prepared
00:12:50
for as many eventualities as you can,
as you can foresee in the future.
00:12:55
I think it takes a balanced attitude.
00:12:58
And what I mean by
that is if you're looking
00:13:00
at your investments on a daily basis,
pulling your hair out
00:13:04
because the stock market went down today,
that that's the wrong approach.
00:13:08
Right.
00:13:09
I'm looking
making sure that my money's still there,
00:13:12
that it hasn't been absconded
or there's an error or otherwise.
00:13:17
Otherwise I'm just leaving it.
00:13:19
And so I the the approach
00:13:23
I'm really trying to encourage
among people
00:13:27
is one of awareness, use
00:13:31
and knowledge more than, you know,
some sort of strategic
00:13:35
investing strategy because most of us
are not professional traders.
00:13:38
I'm not despite my,
you know, profession as an academic, I'm
00:13:42
not a professional trader.
00:13:43
So I'm really just trying to make sure
my investments are structured
00:13:48
in a way that they reflect my risk
tolerance, my family's risk tolerance,
00:13:52
and that they put me on a path
to where I need to be.
00:13:54
But let me touch on that as we
wrap it up here.
00:13:58
That importance of awareness
and what that can bring
00:14:03
to a person, a family of
just having that awareness and having,
00:14:08
you know, just focusing on it at whether
it's monthly or quarterly, whatever it is.
00:14:12
But to have that awareness
and the benefit that that can bring,
00:14:15
yeah, it's peace of mind.
00:14:16
And that to me is invaluable
knowing that I'm going to be okay. Now.
00:14:22
Now, when you first do this
for the first time,
00:14:24
it can be a slap in the face and scary.
00:14:27
And I think that prevents people
from taking that initial first step.
00:14:30
But boy, once you get on top of it,
it's just a different world.
00:14:35
Great to have you here.
00:14:36
Thanks very much, Michael.
00:14:37
Thanks for having me.
00:14:37
All the best,
00:14:38
Michael Roberts, who's a professor
of finance here at the Wharton School.
00:14:42
Thank you for listening
to the ripple effect.
00:14:44
We hope you found this episode
informative and engaging.
00:14:47
Don't forget to subscribe
and leave us a review
00:14:49
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