Euribor vs. Inflation: When Debt is Your Ally

The natural instinct of the Spanish saver is: "I have debt, I must eliminate it". It is a mindset inherited from our parents. But in the current economic environment, that mindset can cost you money.

The Problem: The Real Interest Rate

Euribor is high, yes. But Inflation has also been high. When inflation is high, the value of money decreases. This means that the €1,000 you pay in installments today is worth less (in terms of purchasing power) than the €1,000 you paid 5 years ago. If your salary adjusts with inflation (or close to it), your debt is getting "smaller" on its own, in real terms.

For example, let's say you have a mortgage of €200,000 with an interest rate of 3.5%. If inflation is 4%, the real interest rate you're paying is -0.5% (3.5% - 4% = -0.5%). This means that, in real terms, you're actually paying less than the nominal interest rate. This can be a good thing, as it reduces the burden of your debt.

The Agitation: The Opportunity Cost

If you run to pay a mortgage that costs you 3% interest, while inflation is 4% or 5%, you are making a financial mistake. You are using "expensive" money (yours, liquid) to pay "cheap" debt (devalued by inflation). Also, if you use all your savings to amortize, you lose liquidity. If rates go up even more tomorrow or you lose your job, the bank will not return that amortized money for you to pay the supermarket.

To illustrate this, let's consider an example:

You have €10,000 in savings.

You use it to amortize your mortgage, which has an interest rate of 3%.

Inflation is 4%.

You could have invested your €10,000 in a high-yield savings account earning 3.5% interest.

In this scenario, you would be better off investing your €10,000 in the high-yield savings account, as it would earn you more interest than the mortgage amortization. Additionally, you would maintain liquidity and have access to your money in case of an emergency.

The Solution: The "Arbitrage" Strategy

As Analysts, we recommend looking at the Spread.

Look at the APR of your mortgage (e.g., 3.5%).

Look at the safe profitability you can get for your money (Treasury Bills, Deposits, Remunerated Accounts).

If you can get 3.0% or 3.5% in a remunerated account with immediate availability, DO NOT AMORTIZE. Why? Because you maintain liquidity. The financial benefit of amortizing (saving 3.5%) and investing (earning 3.5%) is identical, but investment gives you freedom and security. Amortization leaves you with bricks but no cash.

The Simulation on Amorti

Use AmortiApp to find your "Break-Even Point".

Simulate an amortization of €20,000.

Note the "Total Interest Savings".

Divide it by the remaining years to see the approximate "annualized return".

Compare that with what a 3% Compound Deposit would give you.

If the numbers are close, always choose liquidity. Amortize only when the mortgage interest is clearly higher than the safe investment. Do not decapitalize yourself blindly. Calculate first.

Some key takeaways to consider:

Inflation can reduce the burden of your debt.

Using your savings to amortize your mortgage may not always be the best option.

Investing your money in a high-yield savings account or other low-risk investment can provide a similar return to mortgage amortization while maintaining liquidity.

It's essential to calculate your break-even point and compare it to the returns of alternative investments before making a decision.

Making the Most of Your Money

To make the most of your money, consider the following strategies:

Diversify your investments: Spread your money across different asset classes, such as stocks, bonds, and real estate, to minimize risk and maximize returns.

Take advantage of tax-advantaged accounts: Utilize tax-advantaged accounts, such as 401(k) or IRA, to save for retirement and reduce your tax liability.

Prioritize needs over wants: Be honest about what you need versus what you want, and prioritize your spending accordingly.

Monitor and adjust: Regularly review your financial situation and adjust your strategy as needed to ensure you're on track to meet your goals.

By following these strategies and considering the impact of inflation on your debt, you can make informed decisions about how to manage your finances and achieve your long-term goals.

Conclusion

In conclusion, when it comes to managing your debt and investments, it's essential to consider the impact of inflation and the opportunity cost of using your savings to amortize your mortgage. By understanding the real interest rate and the spread between your mortgage interest rate and the returns of alternative investments, you can make informed decisions about how to allocate your money. Remember to prioritize liquidity, diversify your investments, and take advantage of tax-advantaged accounts to make the most of your money.