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I think the author's advice is basically to take out a leveraged bet on the stock market. >Sure, that is simplifying it a bit. Obviously, the stock market does
by bko 12y ago
I think the author's advice is basically to take out a leveraged bet on the stock market.
>Sure, that is simplifying it a bit. Obviously, the stock market doesn't return 10% every year on the dot.
He mentions this as an aside but it's very important to consider the time period he invested in. Below is the continuous return for S&P500 in a 4 year period:
End: 1848.36 (12/31/13) Start: 1115.1 (12/31/09) Return: 13%
End: 1426.19 (12/31/12) Start: 903.25 (12/31/08) Return: 11%
End: 1257.6 (12/30/11) Start: 1468.36 (12/31/07) Return: -4%
End: 1257.64 (12/31/10) Start: 1418.3 (12/29/06) Return: -3%
End: 1115.1 (12/31/09) Start: 1248.29 (12/30/05) Return: -3%
End: 903.25 (12/31/08) Start: 1211.92 (12/31/04) Return: -7%
End: 1468.36 (12/31/07) Start: 1111.92 (12/31/03) Return: 7%
End: 1418.3 (12/29/06) Start: 879.82 (12/31/02) Return: 12%
End: 1248.29 (12/30/05) Start: 1148.08 (12/31/01) Return: 2%
End: 1211.92 (12/31/04) Start: 1320.28 (12/29/00) Return: -2%
End: 1111.92 (12/31/03) Start: 1469.25 (12/31/99) Return: -7%
End: 879.82 (12/31/02) Start: 1229.23 (12/31/98) Return: -8%
End: 1148.08 (12/31/01) Start: 970.43 (12/31/97) Return: 4%
End: 1320.28 (12/29/00) Start: 740.74 (12/31/96) Return: 14%
Hardly the no-brainer the author makes it out to be. In fact, only half the returns were positive. Maybe it's unfair to consider a 4 year time period, although that is what the author states. The 10 year returns still don't look great.
End: 1848.36 (12/31/13) Start: 1111.92 (12/31/03) Return: 5%
End: 1426.19 (12/31/12) Start: 879.82 (12/31/02) Return: 5%
End: 1257.6 (12/30/11) Start: 1148.08 (12/31/01) Return: 1%
End: 1257.64 (12/31/10) Start: 1320.28 (12/29/00) Return: 0%
End: 1115.1 (12/31/09) Start: 1469.25 (12/31/99) Return: -3%
End: 903.25 (12/31/08) Start: 1229.23 (12/31/98) Return: -3%
End: 1468.36 (12/31/07) Start: 970.43 (12/31/97) Return: 4%
End: 1418.3 (12/29/06) Start: 740.74 (12/31/96) Return: 6%
End: 1248.29 (12/30/05) Start: 615.93 (12/29/95) Return: 7%
End: 1211.92 (12/31/04) Start: 459.27 (12/30/94) Return: 10%
End: 1111.92 (12/31/03) Start: 466.45 (12/31/93) Return: 9%
End: 879.82 (12/31/02) Start: 435.71 (12/31/92) Return: 7%
End: 1148.08 (12/31/01) Start: 417.09 (12/31/91) Return: 10%
End: 1320.28 (12/29/00) Start: 330.22 (12/31/90) Return: 14%
Picking stocks as the author alluded to will probably make the actual results much worse.
I think it's generally irresponsible to give one data point and an oversimplified statistic about average annual returns to financially vulnerable students. Especially considering that the authors approach would essentially be a levered bet. Tax implications aside, if you're paying 3-6% interest on your loans, paying them off is a guaranteed return. Compare that to the appropriate risk-free benchmarks and you'll see that it's definitely a smart decision to payoff the loans as soon as possible.
Few notes, returns calculated are continuous compounding although I don't think student loans are continuously compounded. Also, I chose year end dates for convenience, although I'm sure if you took other dates, your results would vary greatly (but that's sort of my point)