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My my my. I think we all have and will always have a special place in our hearts for the 1980’s. Any decade that produced Back To The Future, one of the best movie series ever made, has got to be awesome! Not only that, 1980’s/Back To The Future gave us 2 minutes of the best Biff insults of all time. If you don’t believe me, just take a look at the video clip below!
But, before the 1980’s made like a tree and got outta’ here (excuse the Biff line), it also gave us one of the most CRAZY and random music videos I have ever seen in Bonnie Tyler’s “Total Eclipse of the Heart.” Just take a look at the video below. This video has slow motion doves, football players, ninjas, fencers, and preppy guys making a wine toast!
Interest and Inflation Rates During the 1980’s
Aside from these unforgettable media contributions, the 1980’s was also a time of incredibly high interest rates (and indeed inflation as well).
According to Money Cafe’s Prime Rate History page, the prime interest rate (the rate at which banks borrow money from the Federal Reserve) during the 1980’s was well above 10%. In fact, during the early portion of the 80’s, prime interest rates as high as 20% were seen. Now, it’s important to realize that as an investor, you wouldn’t be able to invest money at the prime interest rate (since the banks have to have a spread of around 3% less on investment products in order to make money). However, opening up a fixed income investment at 10% annual interest doesn’t sound too bad at all, right?!
During this same time (according to Jeremy Siegel’s book, Stocks for the Long Run), the annualized inflation rate was 4-5%. While this is still higher than the average annualized inflation seen from 1888-2001 of 2.68%, it is much lower than I expected it to be. Before beginning to write this post, I was suspecting that inflation was above 10% in the 1980’s.
Applying this knowledge along with the fact that the average nominal return of the stock market since 1888 has been 9.72%, it begs the following question….
Did People Take Advantage of this Situation By Locking in This High Interest Rate for a Long Period of Time? And If Not, What The Heck Were They Thinking?!
In a search for an answer to this question, I reached out to my Dad for some insight.
However, he further went on to explain that what he did do with any of his extra money was to pay off his 14.5% interest rate mortgage taken out in the early 80’s. This definitely was a wise decision, and I do believe that for people that opened up mortgage accounts in the 1980’s, it would have been a better use of your money to pay off your loan, due to high interest rates.
On the other hand, for people that didn’t have a mortgage, it would reason that it would have been a great idea to lock in a 30 year T-bond at a cushy 13.45%, knowing the historical trends.
What Can We Learn From This?
In my opinion, there are some powerful takeaways that we can learn from this analysis. I’ve tried to concisely summarize these below:
- Keep history in mind and don’t doubt it.
- Since 1888, the average inflation rate has only been 2.68% and the average nominal (before inflation) has been 9.72%. Period. End of story.
- Compare current fixed income interest rates to the interest rates on your debt accounts.
- For example, let’s say that I am a 30 year old that has locked in a 30 year fixed rate mortgage at the current national average of 4.62%.
- However, in the year 2015, the world economy goes haywire and inflation goes up to 10%, but the rate on 30 year T-bonds goes up to 13%.
- Since you have locked in a lower rate mortgage, I feel that it would be beneficial for you to invest a substantial amount of money in a fixed rate bond.
- Remember to invest using tax-deferred/favored accounts.
- My Dad’s concerns about the effect of paying taxes on CD investments in the 1980’s is very prudent. However, according to eHow.com, fixed rate investments (CDs and T-bonds) can be housed in IRA accounts. This takes care of the tax worry! Hurray!
How about you all? Did you lock in a high fixed rate investment during the 1980’s? If so, what type and what interest rate did you get? If not, what kept you from doing so?
Share your experiences by commenting below!