Matt Krantz is an Assclown

This kind of crap drives me nuts. For those too lazy to follow the link, it's a financial story by Matt Krantz of the USA Today, which was featured in Yahoo Business. In the story, Krantz touts the merits of not prepaying your mortgage. Instead, he recommends that you invest the money, that you would use for prepayment, in securities. In other words, Kranzt attempts to disguise his whoring for Wall Street as sound financial advice.

Kranzt gives the following flawed illustration: An accoutant takes out a $200,000 mortgage for 30 years at 5.5% leading to a monthly payment of $1,136. After one year of making the minimum payment, the accountant has paid $10,933 in interest and $2,694 of principal. So far, so good. Kranzt's skill at using online amortization calculators is beyond reproach. In the second year, the accountant decides to pay off the $197,306 prinicipal completely. (I won't even question why the accountant would take a mortgage if he had $197,306 laying about.) Kranzt then says that the accountant is foolish for not considering the "hidden costs" of forgoing future mortgage payments; tax deductions and future, unrealized returns. Per Kranzt:

That's not all. By paying the mortgage in advance, the accountant is missing out on the future price appreciation of the money he used to pay off the mortgage. Assuming the accountant invests in a properly diversified portfolio, it's not unreasonable to expect an average 10% annual return. Had the accountant invested the $13,632 annual mortgage payment for 29 years at 10%, it would be worth $216,246. Even if you assume 3% inflation, that payment in current dollars would be worth $91,763. And that's just from one year's payments. Figure the payments over 29 years and the cost to the accountant will easily exceed the $197,306 he thought he was saving. So you can see that in this case, it doesn't make sense to pay off the mortgage early.

This argument is deceptively fucked on many levels. On the lowest level, if the accountant were to actually follow Krant's advice and not prepay: Wouldn't he want to invest the $197,306, not $13,632? This would yield $3,129,883 over 29 years, using Krantz's method of computing future returns. However, the part where Kranzt really shows his ass is when he say that a 10% return from a properly diversified portfolio (i.e. the mutual funds of those who pimp Krantz) is not an unreasonable expectation. An annual return of 0% or -10% is not unreasonble, either. This is because past performance is no guarantee of future returns, as they used to say on Wall Street. Record deficits, non-existent corporate oversight, rising energy costs, and bubble real estate markets subsidized by the US gov't are all reasons to expect that trees will not grow to the sky.

There is one guaranteed way for the accountant to make money in this scenario, which is to pay the mortgage off. There is no question that this will save the accountant $197,875 in interest over the remaining 29 years of the loan. Money saved is money earned. With the loan paid off, the accountant now has the amount of the $13,632 annual payment free to do what he likes with. If he makes 29 annual investments of $13,632 and earns the 10% return, that Krantz optimistically predicts, he will have $2,444,996 at the end of the 29 year period. Even if he doesn't invest the $13,632, real estate appreciation may well provide a superior return to Wall Street for the $197,306 used to pay off the loan. I expect that Krantz's problem with this scenario is that the bank will get screwed out of the interest that it expected to earn on the mortgage and his brokerage buddies will miss out, if the accontant chooses not to invest the $13,632 in the market.

The true "hidden cost" in this is the interest. Neglecting PMI and tax considerations, for simplicity, say that you buy a home at $200,000, on New Year's Day of 2006, with a 30 year mortgage at 5.5%. Now, let's say you sell it on New Year's Day of 2016, for $375,000. Did you make $175,000? No, you made $175,000-$109,577 = $65,423, with $109,577 being the cumulative interest paid on the loan. That's why paying as much as possible on a mortgage as early as possible makes the most sense to me.

To be fair, Kratz does mention that prepaying might be wise if you only think the market is only going to increase 4% annually. In essence, he is saying: "For those of you who know that I'm pissing on your leg and calling it rain, ignore this article."

In conclusion, I would like to extend a sincere and heartfelt "Fuck You" to Mr. Krantz. If you want to shill for the brokerages, get a job in one of their boiler rooms, jackass.