'Financial Resolutions' for the New Year

[Bronte]

Interesting viewpoint and definitely one which most on here would disagree with !

Is having access to the funds worth an opportunity cost of say 3500 a year (100k @ 3.5% on the mortgage for example)

I wouldn't disagree with him on that point.

 

[Gordon Gekko]

That is some emergency.

If you have a non-tracker mortgage, you are getting a definite tax free, risk free, return of 3%.

That is so much better than paying €1,800 a year insurance in case of some emergency, which is unlikely to happen.

If you are building up such a fund, you presumably have a good income. You can meet most emergencies.

The only reason you would need such a large fund would be if there was a significant risk to your income.

Brendan

The only basis for the €60k is that it represents the conventional wisdom of having enough to cover 6 months' outgoings.

I absolutely agree that repaying a mortgage at 3.1% offers an incredibly attractive rate of return. However, I'm also of the view that banks offer us all umbrellas when the sun is shining. If there is ever another shock, cash will become king.

An investment manager who I've a lot of time for maintains that the opportunity cost of holding back cash can only be measured when you've deployed it. I would prefer to owe €700k at 3.1% and have €100k in cash earning nothing rather than owing €600k and having no cash. Cash gives optionality.

 

[Sarenco]

Hi Gordon

FWIW, I think the equivalent of a risk-free, after-tax, net return of 3.1% is pretty exceptional when you consider that a 90-day German government bond (a common proxy for a risk-free return in this part of the world) is currently yielding -0.828%.

I personally wouldn't be keeping any "dry powder" if that guaranteed rate of return was available to me.

I am a great proponent of building a liquid cash reserve equivalent to around 6-months' expenditure before paying down mortgage debt (or investing elsewhere). Apologies in advance if this sounds in any way judgmental but €10k a month seems a rather high level of expenditure for most households and I wonder are you including investments (pension contributions, etc.) in that figure?

 

[gnf_ireland]

Just a quick update on my earlier comment to @Brendan Burgess and one which reflects what @Sarenco is saying above.

I had a side bar conversation with a few people on this, and we all came to the same conclusion. It makes no sense to invest/save at current rates when paying in excess of 3% on our mortgages. So we will liquidate some more savings/investments held and pay off against the mortgage in the short term.

We will not pay off the mortgage (although we are in a position to do so) as it means losing our redraw option on some of the funds, but would effectively bring it to a ~5% LTV and go back to standard monthly repayments at that stage.

Thanks to all for the advice above, and probably saves me going near a financial advisor until later in the year

 

[Gordon Gekko]

Hi Sarenco,

Yes, that figure isn't just mojitos and Marlboros; it includes all commitments, including savings and investments which could clearly be adjusted in the event of a speedbump.

I fully accept the logic of using cash to repay mortgage debt given the current dynamic and I plan to do so once I have enough "dry powder".

I just like the idea of having a meaningful amount of cash. The inability to access funding during the credit crisis sticks in my mind. As does a former client's ability to save his child's life by funding cutting edge treatment in the US with excess cash.

Happy New Year to you.

 

[Sarenco]

Many happy returns for 2017 Gordon.

 

[gnf_ireland]

I just like the idea of having a meaningful amount of cash. The inability to access funding during the credit crisis sticks in my mind.

I do believe this is central to most people's view. If they have savings, they like to see the cash in a bank account, even if it is making no interest. For a lot of people, putting it against the mortgage is a hard decision to make. They like the idea of the security blanket.

I had the same conversation with my wife last night on this exact same topic. She likes to see that cushion, irrespective of the 'cost'.

@Gordon Gekko Out of curiosity, what do you think is a "meaningful amount of cash" for this purpose? Either in numbers or percentage of annual income?

 

[Gordon Gekko]

Hi gnf_ireland

Conventional wisdom suggests circa six months' worth of outgoings.

Personally, I'm aiming to have €100k in cash which I freely admit is overly conservative. However, it's not as bad if you have plenty invested in real assets.

 

[gnf_ireland]

Conventional wisdom suggests circa six months' worth of outgoings.

This is more the scenario around emergency cash in cash you cannot work or lose jobs etc. I assume the 6 month should tie into both the nature of the industry you work in (some are better at securing roles quicker than others) and the deferral period on any income protection insurance you may have !

I was more interested in the pot that could be used to leverage an investment opportunity should it arise.

Lets say, someone has a 50% LTV mortgage paying 3%. They have 3-6 months emergency fund in accessible cash reserves.
General consensus here is any additional savings would need to make ~6% plus to justify them, and this is impossible to get risk free.
You seem to have a slightly different view, that even with the 3% mortgage and the emergency fund, it makes sense to hold 'additional' cash. So instead of a 600k mortgage, you hold 700k mortgage and 100k cash.
I am just curious to explore the alternative view, and whether it is simply a comfort factor of having the cash there for exceptional circumstances or is it part of a greater financial strategy !

 

[Gordon Gekko]

It is both a comfort factor (in case of, say, another credit crisis or a need for expensive medical treatment) and a financial strategy. Terrible investment opportunities surround us all, but occasionally one comes across a great one. Having cash to invest in (for example) the right EIIS opportunity can be advantageous. As someone once told me, the opportunity cost or return on cash can only be measured when you've deployed it.

 

[Gordon Gekko]

This can also be thought of in another way...diversification.

Someone with €100k in cash and €300k of equity in their home has a more preferable asset allocation to someone with no cash and €200k of equity in their home.

We should all be striving to have a diversified asset base; by asset class and by geography. The optimal mix is arguably family home, globally diversified portfolio (first through pension) and cash.

 

[gnf_ireland]

@Gordon Gekko fair enough. Makes sense, especially if you are close enough to the 'action' to see the great opportunities if they arise. Food for thought if nothing else!

 

[elcato]

You have a mortgage with KBC which is on 3%. So you can get a guaranteed, risk free, tax free, return on your money of 3% by paying down your mortgage.

So cash in your education fund and pay down your mortgage.

It will be difficult to get a return of 3% after tax over the next 8 years. And to get anywhere close to it, you will be taking a significant risk.

Conversely you are getting a loan facility without having to apply and risk possible refusal at ONLY 3.1%. I'm leaning with the others on this. Remember the days of 15% mortgages ? Someday they will return.

 

[gnf_ireland]

Conversely you are getting a loan facility without having to apply and risk possible refusal at ONLY 3.1%.

@elcato The other factor here, which Brendan referred to above, is I already have the ability to redraw a reasonable amount of money from the KBC mortgage as it stands. His point (supported by others) is I don't need to carry reserves that don't make me ~7%, as it is not financially beneficial to do so.

The redraw option allows me to pull down a defined amount of over payments at any time.

 

[elcato]

The redraw option allows me to pull down a defined amount of over payments at any time.

In your case yes as you have clarified but some may not have the the luxury of this. I presume they have clarified in writing your ability to do this of course

 

[gnf_ireland]

In your case yes as you have clarified but some may not have the the luxury of this.

Yes of course. I appreciate it is a rare enough facility at this stage

I presume they have clarified in writing your ability to do this of course

Indeed. I had to go through their internal complaints process to get full confirmation as to what was possible to redraw and what was not possible to redraw. But its all available in writing now, and is explicitly clear in the final resolution letter to the complaint !

 

[Fella]

Reading this makes me feel unlucky to be wealthy when interest rates are so low , be great to have been around when interest rates where 15%.

 

[Sarenco]

Reading this makes me feel unlucky to be wealthy when interest rates are so low , be great to have been around when interest rates where 15%.

Don't forget that inflation was also exceptionally high at the time - the CPI hit 23% in 1981!

Very difficult to maintain the real value of wealth in those circumstances.

 

[gnf_ireland]

Very difficult to maintain the real value of wealth in those circumstances

This is a very interesting view. CPI from November 2016 shows -0.1%, so in effect we had negative inflation for the year to November 2016. In that scenario cash alone will maintain purchasing power.

But what happens if inflation starts to rise. I assume that interest rates also tends to rise in these circumstances, but maybe not aligned. Inflation in Ireland may outweigh it in the EU so interest rates are lower than inflation.

How does one maintain the real value of wealth in these cases? How was it done in the 1980's by those considered 'middle class/working professionals' back then?

 

[Sarenco]

This is a very interesting view. CPI from November 2016 shows -0.1%, so in effect we had negative inflation for the year to November 2016. In that scenario cash alone will maintain purchasing power.

Absolutely.

The positive real (after-inflation) return on cash deposits at the moment is pretty much bang in line with with the long-run average. It's a pervasive myth that cash deposits lose purchasing power over the long term.

How does one maintain the real value of wealth in these cases? How was it done in the 1980's by those considered 'middle class/working professionals' back then?

With great difficulty!

The "stagflation" (high inflation/low growth) period of the late '70s was extremely challenging for savers/investors but a great time to be a borrower (inflation eats away at the real value of debt). Also, bear in mind that the taxman doesn't make allowances for inflation.