Reply to If paying off your mortgage is dumb, why do so many rich people do it?

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[quote=Anonymous]Just because no one has mentioned it explicitly, another reason to forego accelerated pay down is that mortgages possess a very attractive call option held by the borrower and “shorted” by the lender. In financial speak they are negatively convex whereas bullet bonds are positively convex.

If one is financially risk averse one can buy treasuries/non callable muni’s/etc which defease the mortgage and earn slightly positive carry (assuming a legacy low rate mortgage) while getting lots of positive convexity/upside if rates fall. If they rise, you’re matched.

Paying off a mortgage early gets rid of this optionality. The government subsidizes credit risk of mortgages and demand for the almighty dollar subsidized lenders tolerance for the call option given for free to the borrower.

Rates go down, refi, bonds up in value.
Rates go up, reinvest cash flows from bonds at higher yields while your mortgage decreases in present value.

Staying a borrower leaves you long rate volatility and more liquid. Also to the extent you think home prices and mortgage rates are correlated, a fixed long term mortgage acts as a hedge to a decline in property values, as the decline in PV of your mortgage helps.

I have a spreadsheet that tracks the present value of my mortgage. It’s worth about 88% of par discounted at the zero coupon treasury curve. It declines in value bumpy about 10% for every rate increase. [/quote]

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