Term of the Week: Adjustable-Rate Mortgage

Definition

An adjustable-rate mortgage (ARM) is a home loan with a variable interest rate. With an ARM, the initial interest rate is fixed for a period of time. After that, the interest rate applied on the outstanding balance resets periodically, at yearly or even monthly intervals. ARMs are also called variable-rate mortgages or floating mortgages. The interest rate for ARMs is reset based on a benchmark or index, plus an additional spread called an ARM margin.

News

Amid the recent spike in mortgage rates and higher home prices, borrowers are increasingly using adjustable-rate mortgages (ARMs) in order to offset higher borrowing costs. The share of ARMs as a percentage of all loans outstanding rose to 11% earlier this month, according to the Mortgage Bankers Association (MBA), the highest share since March of 2008.?The average rate on a 30-year, fixed-rate conforming loan (up to $647,200) was at 5.49% for the most recent week ending May 20, near 13-year highs, according to an MBA report on Wednesday. With interest rates for a 5/1 adjustable rate mortgage averaging 4.2%, according to data from Freddie Mac, that’s a difference of about 1.3 percentage points.?A recent analysis by real estate firm Redfin comparing estimated monthly mortgage payments on the median-asking-price home found that homebuyers could potentially save over $15,000 over the next five years if they opted for this type of mortgage. Of course, ARMs are not without risks. It can be difficult to predict what rates will be when the loan resets, and borrowers may have a harder time covering monthly mortgage payments, or face fees or penalties if they refinance or pay off the loan early.