Like most people, I ended up financing my first new car. I took out a 5 year loan that was about $265/month with and interest rate of 2.4%. The contract was not too shabby for a car straight off the lot, especially with me being a novice at car buying. While the $265 payments were not killing me (I was actually paying $350/month in an effort to speed up the process), I could not wait for the day where I could say that my car was fully paid for. Well that day came sooner than expected when I received an unusually high return on a stock I was trading last month.
After the T+3 settlement period and the profits cleared in my bank account, I acted on an impulse to use the money and completely pay off the rest of my car loan. At that instant I felt relief. It felt like a weight had been lifted off of my shoulders knowing that my car was paid off. I was proud to have paid off a 5 year car loan in just under 3 years. For the next couple days after I made the payment, all I thought about was what I could do with that extra $350 a month. Then I realized my mistake in reasoning.
Before the lump payment I had just under $6,000 left to pay off my car. I had never missed a payment and my credit is in good standing. After I calculated it, I only saved a couple hundred dollars by paying my loan off early. My savings pales in comparison to how much I would have made by reinvesting those funds. On average I try to make at least 1-1.5% each day I day trade. Which means that I could have been making $60-$90 per day off of that $6,000. That may not seem like that much of a return per day but if I kept up that same consistency over the 252 trading days in a year then I would have made about $15,000 in a year. Which was actually the original amount of the loan.
My goal for my long term investment portfolio is about 9%-10% per year. That percentage goal is more than the yearly 2.4% interest that was on my car. So even if I would have invested the $6,000 to buy more long term stocks, that would have taken care of the interest on my car for the year and then some. I also receive dividends from some of my long term investments that would have gave me even more profits.
After going through the numbers in hindsight, I definitely realized that I learned an important lesson. Paying off my loan in one lump sum to lower my debit may have seemed like a good idea but in actuality it was not. Instead of paying in one lump sum to avoid a $350 monthly payment, I should have invested it. Investing that money long term or trading it would have brought in returns that would have paid for the loan and left me with a substantial profit.