S+S ISA or overpay mortgage?

[BooksAndChooks]

My mortgage interest rate is 1.86% for the next 10 years. I would like to either pay it down as much as possible via overpayments or save a lump sum so that we could clear a large chunk of it at the end of the fixed term.

A few months ago the advice was that putting money in a stocks and shares ISA would likely "out perform" overpaying mortgages with super low interest rates.

I was wondering, with interest rates rising and the economy becoming more volatile, is this still the case?

How much per month do you have available? Enough to do half and half?

At the moment I have very little available as we are paying off some essential work to the house. I'm hoping to clear that within the next year and then will probably have something in the region of £500-800 a month.

At such a low interest on your mortgage I'd look to put something in a savings account and the rest into a S&S Isa. You could look into the monthly savers they often have good interest rates and later on possibly notice accounts or 2-5 year savings accounts depending on interest. That way some of your money is safe and the rest hopefully earning good interest.

I'd wait til you have the money available, a hell of a lot can change in a year

Save half use the rest to overpay.

Based on the performance of my S&S at the moment, I would be overpaying my mortgage.

Gosh, a 1.86% fixed mortgage rate, with interest rates predicted to rise steeply - I would not be paying that down at all yet!! Your excess cash could prove to be a little goldmine, with virtually no risk.

As you are considering paying down a mortgage I'm assuming you would prefer low to medium risk options?

Here's what I would do:

Make no decision yet on investments. Interest rates are predicted to rise steeply.
The Bank of England will vote on a rate rise on 4 August 2022, and again on 15 September. Savings rates will follow.

Who is your mortgage with and do you have any savings accounts?
Many building societies are offering attractive loyalty rates for existing savers already. Have a look at the best easy access ones you are eligible for, and build up your savings in those for now. Switch these around whenever the rates start to look less competitive.
Then, investigate which building societies and banks are offering loyalty rates. Check their T&C's and open as many easy access accounts as you can across each institution with the minimum amount required to meet the T&C's for each one. This will qualify you for their best rates in a year's time (or whatever their qualifying period is).

Once the B of E decision about rates becomes a bit clearer, wait for the savings institutions to respond then look for accounts with attractive rates.
Best ones at present are longer term fixes (avoid these for now or you will be stuck whilst rates are rising) and regular savers.
(- for instance YBS is offering a loyalty regular saver at 5%, with a max contribution of £500 per month for a year; Nationwide Start to Save issue 2 at 2.5% open to anyone saving between £25-£50 per month with prize draw sweetener; also a flex regular saver for existing customers with higher amounts of £200 per month).
All of these rates will beat the effect of paying down your mortgage with no risk, and that's before any further rises. You can open several across institutions, starting with the best rates, working your way down. Keep an eye out for NI savings rate changes too, which are poor at the moment but that might change.

As rates increase you can start to think about longer savings fixes, which limit withdrawals, but offer better rates.

Once you have a good amount of savings, start to think about S&S investments in very low cost funds; - but I would hold off that for now until you have made the most of the risk-free savings options which are likely to rise and become very advantageous for you.

And me. I am very concerned about the stock market at the moment. With a recession looming and with the uncertainty with Russia, I would aim to get my debts down. If Putin decides to start using tactical nukes, share prices will plummet.

Other way round for me.

There is no need to 'get your debts down' if your cash savings are paying a higher rate than your debt interest. The money will still be there in your risk-free savings to pay down the mortgage at any point, but it will be earning you additional interest above what you are being charged for the debt in the meantime.

Really good advice from @seekingasimplelife

Thanks for the replies.

We have accounts with RBS, Santander and Lloyd's.

@seekingasimplelife can I just clarify what you mean by a little "goldmine"? If I remortgage to borrow more will the extra funds be charged at 1.86% interest rate, or a new (likely much higher) rate? I have looked at remortgaging a lot as our fix was up recently, but I have never looked into borrowing more, so unsure how it works.

I may be missing something, but it’s not like for like because of compound interest on the mortgage?

But you get compound interest on your savings too

But that only works if you have the same in savings as you have in mortgage from the outset?

but if you are earning interest on say £20k and it takes a while to get to the £20k) and you are paying interest on say £400k?

if the figures worked out the same what would be the point of offset mortgages having ever been introduced?

Same here, I am ploughing as much into my S&S as possible as I see it as buying at a massive discount. My mortgage is 2.29% for 5 years, and woudl expect to exceed this by double in my S&S ISA.

Plus it is still easily accessible if needed and not tied up in my property.

One thing to consider, is falling house prices, which could impact your 'investment'

@BooksAndChooks
No, I wouldn't advise borrowing more at all.

The reasons I say you could be sitting on a 'little goldmine' (sorry - a little long-winded)...

You have a very good rate over a long term fixed time frame. Hold onto it. Soon these favourable mortgage rates are likely to be a very distant memory!

Inflation means the value of your actual mortgage debt is decreasing real terms over time (inflation benefits debtors). The higher the inflation rate, the less your mortgage debt is worth in real terms. And inflation is the highest it's been in 30 years and predicted to go significantly higher - excellent news for those on a relatively tiny rate.
Also, as house prices rise, the proportion of the equity outstanding on the mortgage gets smaller - in 10 years your mortgage will be a much smaller fraction of the value of your house than now, because your house will be worth more. (This would happen even if you were on an interest-only mortgage due to inflationary effects). So you will have access to better mortgage deals even if you find mortgage rates are higher. Plus the impact on your household expenses will be much reduced because everything, including your income will have risen - except the balance of your mortgage.

Now on top of that - you have excess to save and can use this to earn interest at a higher rate than your mortgage interest.

So suppose you save, for instance, £3600 per year - (£300 per month).
Mortgage interest on this amount over 10 years approx £735.
But saving £3600 at 3% interest will produce £1258 - a profit of £523 after 10 years.
Saving £500 per month will yield you a profit of £871, so the more you save the greater the profit margin after mortgage interest is accounted for.

Now, suppose interest rates rise to 5% - (they are strongly predicted to rise)..
Saving £500 per month will yield £3882 over 10 years and your mortgage interest on that same amount is £1225 - a profit of £2657. Further interest rate rises will produce significantly more profit.

Over time your salary will increase due to inflationary pressures, and you may well be able to save more. This will widen the gap between the interest you are being charged on the mortgage and the profit from savings due to effects of compound interest.

The point is - you know your mortgage interest rate now, but you don't know how high savings interest rates will rise - and the higher they rise the more profit you will make. It could be just a little - or it could be a lot. A 10% rate, saving £500 per month would produce a whopping £9,017 profit, after deducting mortgage interest.
This is why it's virtually risk free to hold off - that saved money will still be there to pay down the mortgage at any point in the 10 years ahead if you need to.

I really appreciate you taking the time to explain this all to me. Thank you.

@Jarstastic - But that only works if you have the same in savings as you have in mortgage from the outset?

but if you are earning interest on say £20k and it takes a while to get to the £20k) and you are paying interest on say £400k?
if the figures worked out the same what would be the point of offset mortgages having ever been introduced?

I understand your confusion with the compound interest and offset mortgages!
If you read my explanation to the OP above it might help.

Basically, for every £1000 borrowed on a mortgage at 1.86% the OP will pay £204 interest after 10 years - (including compounding).

If instead the OP saves £100 each year over 10 years (£1000 in total) with compound interest at 5%, OP will receive a total £330 after 10 years.

OP can then pay off the £1000, plus the interest charged on the mortgage of £204, and still be left with £126.

If instead of drip feeding £100 per year, the OP had a lump sum of £1000 at the start and saved it for 10 years at 5% rate, OP would receive £647 interest.
OP could pay £1000 mortgage plus £204 interest, and still be left with £443 profit.

It's the difference between the mortgage rate and the savings rate which produces the excess profit. This doesn't apply in the case of offset mortgages where there is only one rate. It is in fact the way banks make a profit - borrow at a low rate (take our savings) and lend it out at a high rate (loans to clients).
The compound interest on both rates means effect on the higher savings rate will be greater over time.

You can work it out for yourself on an compound interest calculator here:
www.thecalculatorsite.com/finance/calculators/compoundinterestcalculator.php

@BooksAndChooks
I think it's important to point out that I am not a financial adviser or mortgage expert. It's just my own ideas of how I would approach things. They are quite simplified examples I have given. Please do your own research.
Also 'virtually no risk' - refers to the capital amount saved - as in little risk of losing your savings (as opposed to stocks and shares where you can make a loss).
There is a risk of making less in savings interest than the mortgage interest over the 10 years, if savings rates don't rise sufficiently above your mortgage rate.
Also, changes in the amount you save, and even putting money in at the start rather than the end of each month can affect returns over time, as interest is usually calculated on a daily rate.
Until you know which way savings rates are moving and by how much, it isn't clear, which is why I would just hold off for now.

@seekingasimplelife that's no problem. I don't think we would be in a position to do anything until next spring at the earliest anyway. I'm just trying to get my head around it all.