Adjustable Rate Mortgages Rise Again as Interest Rates Soar – Orlando Sentinel
Mortgage interest rates have reached their highest level in more than a decade, which means higher payments for less house. So an older loan known as an adjustable rate mortgage, or ARM, is making a comeback.
“If you think rates are going to level off or even go down, then you’re going to get that benefit from ARM,” said Lee Foster, Orlando-based sales manager at Fairway Independent Mortgage Co.
The trend might worry those who remember the pivotal role played by ARMs in the Great Recession of 2008. But experts say the guarantees put in place after the housing crash make these loans less risky for the economy, even if they always pose a risk to homebuyers. .
The Federal Reserve has raised interest rates several times this year to fight inflation. Fixed 30-year mortgage rates rose from historic lows of less than 3% last November to 6.66% last week, according to federal mortgage company Freddie Mac.
But while applications for fixed-rate mortgages fell in September, applications for ARMs more than tripled from the start of the year, according to the Mortgage Bankers Association.
ARMs allow buyers to buy a home at a lower rate and switch to the full rate after a set period, often five years.
The average rate for a five-year ARM is 5.36%, according to Freddie Mac, which gives a buyer a 1.3 percentage point break on a fixed loan for the first five years.
Then, after five years, it begins to adjust each year based on current interest rates, with caps on how much it can go either way. “It could go up or down,” Foster said.
So while the early years are discounted, an ARM can be riskier in a market where home values or interest rates are volatile.
“It’s something that’s much more in vogue when fixed rates go up,” said Bob Griffiths, general manager of home services for online mortgage lender Houwzer.
Modern ARMs began in the 1980s. “Banks weren’t always comfortable holding a mortgage on the books for 30 years,” Griffiths said. As interest rates rose, banks didn’t want to be stuck with mortgages locked in at lower rates.
But ARMs fell out of favor after the Great Recession of 2008. Yahoo Finance research shows that ARM requests fell from a peak in 2005 of around 35% to almost none in 2009.
In the early 2000s, banks created a variety of ARMs that allowed people to buy homes with no down payment or even skip full mortgage payments. Rates would also adjust much higher, or sometimes require large lump sum payments.
These loans were often given to people who didn’t have the income or credit history to repay them, Foster said. Often the plan was to sell the home or refinance the loan before the adjustment period.
But when home values plummeted in 2008, ARM holders found themselves locked into high rates on mortgages that were worth hundreds of thousands of dollars more than the home’s current value.
“The lesson regulators learned was that when people get really hot on buying homes, we have to stay disciplined about credit profiles, the amount of money deposited and home valuation standards,” Griffiths said. .
Mark McArdle, deputy director of mortgage markets for the Consumer Finance Protection Bureau, says ARMs are safer because of federal standards created after the crash. The vast majority of loans are now guaranteed by federal institutions and generally have an initial rate of five, seven or ten years, instead of one or two years.
Basically, ARM applicants must qualify for a higher fixed rate mortgage today, making them less likely to default in the future. “[Lenders] don’t use the ARM rate to get you into more homes than you can afford,” Griffiths said. “It’s not going to end like 2008.”
Foster said most of the ARMs he sees these days aren’t going to first-time home buyers like they did during the housing bubble. “People who are savvy and understand the market get ARMs,” he said.
McArdle said the bureau continues to track the rate of ARMs, and they still make up just 10% of all mortgages. He said that if a buyer is offered an MRA that they believe is in any way predatory, they should report it to the CFPB complaint website: consumerfinance.gov/complaint
ARMs are also a popular instrument for investors, Foster said, because they can buy a home at a lower rate and sell it before the rate adjusts. “They make sense if you know you’re not going to be in this house in a few years,” he said.
Griffiths and Foster agree that market fundamentals make it more stable today than before the crash.
“Credit availability has been extremely tight,” Griffiths said. “If there’s a political issue, it’s whether or not we’ve gone too far and are pushing people out of ownership.”