Yes, you read that right. You could be getting a 16% return on your money right now, and it’s not that hard to do.
As Mark Cuban, the “Shark Tank” star, billionaire entrepreneur, and NBA franchise owner explains, just pay off your debts.
Americans carry an enormous amount of personal debt. The personal finance site NerdWallet put our revolving credit card balance at $420.22 billion in late 2018.
That’s not considering total credit card debt, which is $944 billion, or the multiple trillions in mortgage, auto and student loan debt. The revolving number is just the credit card debt we carry from month to month.
It works out to $6,929 per U.S. household. Meanwhile, according to Credit Karma, the average rate on that debt was 15.96%.
Pay that off and you stop losing nearly 16% in compounding negative returns.
“The reason for that is whatever interest you have — it might be a student loan with a 7% interest rate — if you pay off that loan, you’re making 7%,” Cuban said.
“And so that’s your immediate return, which is a lot safer than trying to pick a stock, or trying to pick real estate or whatever it may be.”
Do you think you can find a stock that will return 16% in the next year? Do you think your retirement portfolio will grow that quickly?
Of course not. Whatever short-run investment you make that promises juicy returns forces you to run the risk of equally powerful losses.
Long-term investments are safer, but there you have to contend with what academics call “reversion to the mean,” the tendency for investments to average out over the years.
Stocks from 1950 to 2018 returned 11.1% annually. Bonds returned 5.8%. If you had a 50/50 stock and bond portfolio, you averaged 8.8%.
How’s that 16% looking now?
Look, it’s hard to pay off debts. Being debt-free (or at least credit-card debt free) requires immediate sacrifice.
That’s vacations not taken. Car repairs delayed. Cooking at home and not relaxing in a restaurant on the weekend or for workday lunches.
Yet the cost of not paying off your high-interest debts is astronomical.
Let’s say you have exactly the typical American household credit balance of $6,929 and carry it for 20 years at 16%. You end up paying $135,038.
Now let’s say you invested that amount instead and earned 8.8% over 20 years. You end up with $37,486.
You should invest, the earlier the better. But, truthfully, the math strongly advises that you pay off any high-interest debt you carry as soon as humanly possible.
A positive force
The power of compounding returns can be a positive force in your financial life. Even if you’re starting late and retirement is only a decade off, starting is the key.
Most people underestimate how long they might live. They spend today like there is no tomorrow. If they invest at all, they make short-run bets rather than taking the safer, more compelling long-term investment.
And, too often, we discount the value of mathematically sound financial planning.
There are many unknowns about the stock market, the economy, politics and world events. Mostly, though, stocks go up regardless of the headlines.
Meanwhile, the things we can estimate well — our personal indebtedness, housing costs, health expenses, Social Security and the cost of living — we tend to ignore.
A better retirement plan process takes into account all of the knowns and compares them to likely long-term investment scenarios. By working with a qualified financial planning professional, you can settle your mind about retirement after just a few consultations.
And, yes, paying down debt will be part of that plan. As Cuban argues, the best way to get ahead is to make sure you’re not falling behind thanks to high-cost debt.
This article was originally published by MarketWatch on Oct. 5, 2019.