Should you sell investments at a loss to pay off debt?

The S&P 500 has had positive annual returns about three quarters of the time over the past 100 years. That means there is a decent chance you may invest money in stocks and earn a positive return over a one-year period. But there is also a one in four chance the investments decline.

If you invest in a couple of stocks as opposed to a diversified portfolio, there is an even higher chance of losing money.

2022 was also a good example of how even “safe” investments can lose money. A typical Canadian bond exchange-traded fund (ETF) or mutual fund that tracked the FTSE Canada Universe Bond Index last year would have lost about 12%. Bonds got hammered because interest rates went up and there is an inverse relationship between rates and bond market prices.

How well do your investments need to perform?

Regardless of how you got where you are, Ruth, the key question is, what should you do now? The ETFs you bought are down in value and your interest rate on your line of credit is way up. You are probably paying 7.2% to 7.7% interest on your line of credit (prime plus 0.5% to 1%).

In order to pay your assumed interest rate of 7.2% to 7.7%, you probably need to earn nearly 9% on your ETFs. The math works like this. If your ETFs earn 9%, you will have to pay tax on the dividend and interest portion, which may be 2% to 3% of the return. That will reduce your return by 1% to 1.5% after tax. Because the values have declined, you will not have capital gains tax to pay on the appreciation until you recoup your losses.

Over the next couple years, might you earn 9% per year on the ETFs? Maybe. Will the interest rate for your line of credit rise, causing the threshold you need to earn to be higher, or will it fall, meaning a lower investment return threshold to come out ahead? That’s difficult to say.

Your decision may only be a compelling one if either stocks or interest rates go way up or way down. In a middle-of-the-road scenario, Ruth, the choice you make may be much less compelling. So, consider this as you contemplate your stress level with the current arrangement.

When should you consider selling?

One thing I would discourage you from doing is using the original investment amount as the number to get back to before you consider selling. It can be detrimental to fixate on recouping a loss before you sell an investment. It may be more empowering to look at it from another perspective.