Saul Geffen, Chief Executive of MortgageSA, says that when interest rates rise, putting money into your bond guarantees a bigger interest saving.
"But while people understand this intuitively, they don?t realise paying extra sharply reduces the time it takes to repay a bond because the interest savings are so significant.
Become bond free
"It?s always a good idea to get bond free as soon as possible because of the amount of interest savings and being able to live bond free is a sound financial goal. Of course, when rates rise as they are doing now, paying extra funds into your bond means you?re saving substantial amounts of interest.
"It's also worth bearing in mind that in period of rising interest rates, stock markets have historically tended to struggle so putting any extra cash into a bond makes very good sense."
As an example, take a house worth R800 000 on which you've borrowed at one percent below prime at 9.5 percent, before rates started to rise, and secured a 100 percent bond over 20 years.
You would be making a monthly repayment of R7617.14 per month. If you decided to pay an extra R1000 a month into your bond, you'd be making an interest saving of R301 251.17 and reduce the initial 20 year term to just over 14 years and eight months.
Investments 'not lost'
Moreover, with rates now one percent higher, the monthly repayments come to R8151.37. An extra R1000 means an interest saving of R353 144.58 and will reduce your outstanding bond term to 14 years and six months.
"If rates rise another percent, the monthly repayment will rise to R8699.67. An extra R1000 in this rate environment means an interest saving of R408 137.72 and this reduces the bond term to 14 years and just less than four months," Geffen says.
Geffen notes that these extra investments are not ?lost? as most people have access bonds and can withdraw these funds later should they really need them ? ideally when interest rates are lower.
"Another way of looking at it is that the guaranteed after tax rate of return is now higher as rates rise. Going back to the example above, when you put an extra R1000 into your bond, your borrowing rate is the return you?re getting. So if you borrowed at 9.5 percent you?re getting an after tax effective return of 9.5 percent."
This means that if rates were to rise to 11.5 percent, that will equal the effective return you're getting, and because it?s going into a bond, there is no tax to pay on it. So as rates do rise, it?s relatively more attractive to invest in your bond than other asset classes.
Says Geffen: "It also makes very good sense to invest in a property when you consider that property was the best performing asset class over the last 20 years in South Africa and that Absa is expecting house prices to appreciate by 80 percent over the next five years."