I’M NOT EARNING ANYTHING ON MY MONEY IN THE BANK. SHOULD I PAY DOWN PART OF MY HONG KONG HOME MORTGAGE?
Paying down your mortgage is essentially a no-risk investment. You will achieve a guaranteed return equal to your mortgage interest rate – currently around 2-3%, depending on your loan arrangement. That’s certainly better than nothing. Note too that Hong Kong interest rates have already crept up from the 20-year low of 0.9% reached in early 2011 and as this creep continues you will benefit from reduced exposure. Depending on your loan arrangements you might be able to reduce your monthly repayments, keeping your loan maturity date the same, or keep your monthly repayments at the current level but bring forward your loan maturity date. You’ll need to ask your bank what your options are, and whether there are any penalties for early repayment. Ask the bank too for a calculation showing the savings you make by paying down your mortgage – these can be significant over the lifetime of the mortgage.
On the other hand, the 2-3% cost of your mortgage provides, in effect, a cheap loan. If you are prepared to take on some risk, you should, over the medium to long term, earn enough from investing in growth assets to outstrip the cost of your mortgage. Growth assets include shares (both local and international) and property, as well as mutual fund investments that might invest in each of these. Returns usually come from a combination of dividends, rent, and capital appreciation. Unfortunately capital appreciation is not guaranteed and it’s seldom in a straight upward line. We’ve seen unusually large swings, both downward and upward, in the value of growth assets since the Global Financial Crisis in 2008. This has created both winners and losers. Before using your cash in the bank to invest in growth assets you will need to carefully consider how comfortable you are with risk and whether you can manage some of that risk by, for example, investing in a portfolio spread across a range of assets.
Apart from the risk and return trade-offs, you should take several other variables into account before deciding whether to pay down your mortgage. These include:
- setting aside emergency cash – usually 3-6 months income to cover possible job losses, medical set backs not covered by insurance, or unexpected capital costs;
- your eligibility in the future for a new mortgage or an increase in your mortgage, This is an important consideration especially if you are older. If you pay your mortgage out and decide later to change homes or use debt for other purposes, you may find the bank considers you too old to lend to;
- do you already have other investments? If not, having all your eggs in one basket – your home – may not be the right strategy. On the other hand, a mortgage can represent a forced savings strategy for many people.
In the end, deciding whether to pay down your mortgage is a strategic decision that should be made in the context of your overall personal circumstances and financial resources. Review your liquidity needs, your budget, risk appetite and time frames for investing. You might even decide to have a bet each way – pay down part of your mortgage to lock in your savings, but diversify your strategies by also committing part of your cash to growth investments. A further variation, if your bank allows you to reduce your monthly repayment, is to commit the monthly cash reduction to a monthly savings plan spread across a range of growth assets.
SHOULD I SWITCH MY HONG KONG DOLLAR SAVINGS TO AUSTRALIAN, OR NEW ZEALAND, DOLLAR TERM DEPOSITS TO GET BETTER RETURNS?
Current returns on Hong Kong dollars are negligible unless you have a relatively large sum to invest for a long term, so anything looks good by comparison. Take HKD3.5m invested for 6 months. Your return would be about 1% whereas that same amount converted to Australian or New Zealand dollars and invested for the same period would give you a return 4-5 times higher.
On the face of it, that looks attractive, however both currencies are trading at historically high levels. If either currency depreciates, even marginally, you stand to wipe out your interest earnings, while if the currency depreciates significantly, you will suffer a capital loss when you exchange your money back to Hong Kong dollars.
Of course you could be lucky and find that at the end of 6 months the currency has appreciated further. If that’s the case you get to earn your interest and make a gain on both your capital and interest when you exchange it back to Hong Kong Dollars.
Luck is the operative word here because as my favorite economist says “all exchange rate forecasts are born useless and die the same way”. There is a huge range of different factors influencing whether a currency moves up or down, including interest rates, inflation, current account deficits and political stability. At the end of the day economists have failed to even come close to producing an exchange rate forecasting model that can be relied on with any certainty to gauge whether a currency will go up or down, and to what extent.
So unless you have a strategy that takes into account that the currency might move against you, you might be better off foregoing the short term appeal of higher returns on term deposits in other currencies. A bird in the hand might be worth two in the bush.