Yeah, I've thought there should be a cash-out mortgage refinancing product for monetizing the difference between my 2.5% mortgage and prevailing rates north of 5%. Unfortunately, I don't think there is.
In Denmark this is a standard feature of fixed-rate mortgages.
The rate for fixed rate mortgages is now around 4-5% p.a. If you had taken out a 30-year fixed rate mortgage for $100k when rates were around 1%, you can now prepay it for just $70k, i.e., at around a 30% discount.
Another interesting feature is that the mortgage can stay with the property when it is sold (subject to the lender approving the new owner). This means that the current economic value of the mortgage can be factored into the purchase price.
> If you had taken out a 30-year fixed rate mortgage for $100k when rates were around 1%, you can now prepay it for just $70k, i.e., at around a 30% discount.
This isn't optimal money management. If you have a loan at below market rates, pay it off as slow as possible. Instead of using $70k to pay it off, invest the $70k in something that pays more than the 1%. You'll monetarily be much better off.
In other words, borrow money at a lower interest rate, and invest it at a higher interest rate. You make money on the difference.
A friend of mine who I helped coach through financing his car, did just that. The interest rate at the time was the market rate, and I advised him to accelerate his car payments. But interest rates have risen so much, I advised him to switch to making minimum payments. He caught on quick :-)
If it is at market rate, the two options have the same value. Now if you have options on the payment schedule, that makes it more complex to value, as there is additional optionality. But the fundamental pricing of fixed incomes securities is such that the discount is exactly the same value as the value of paying off slower.
Yeah, I just stopped paying the „Sondertilgung“ (special repayment) for my 1,66% loan, and instead put it into a fixed deposit account at 3,25% (compounding).
> If you had taken out a 30-year fixed rate mortgage for $100k when rates were around 1%, you can now prepay it for just $70k, i.e., at around a 30% discount.
Maybe this is a dumb question, but could you finance the prepayment with a new mortgage?
Yes, but factor interest rates in. Refinancing 70k at 5% is worse than having 100k at 1%. So although it may be doable, I don’t imagine seeing this in practice
No -- if the discounted prepayment is the market price, they should be more or less exactly the same. That's why you get the cash out (100k - 70k => 30k, for example).
