A Risky Mortgage Instrument Is Gaining Popularity Again
Adjustable-rate mortgages (ARMs), which played a significant role in the 2008 Global Financial Crisis, are seeing a resurgence in the current housing market. Despite their risky nature, ARMs have become attractive as mortgage rates have risen sharply.
Current Trends in ARM Usage
- The share of ARMs in mortgage applications has climbed to nearly 13% this fall, the highest since 2008, according to the Mortgage Bankers Association.
- ARMs typically start with interest rates about one percentage point lower than fixed-rate loans.
- The common 5/1 ARM offers rates in the mid-5% range, compared to 6.3% and above for 30-year fixed loans.
- For a $400,000 loan, this initial discount saves borrowers around $200 or more per month.
The Appeal and Risks for Buyers
Many homebuyers are drawn to ARMs because the lower starting rates can make homeownership more affordable, especially for first-time buyers or those wanting bigger homes. However, ARMs are inherently risky.
“But every ARM, by definition, is a wager: After the initial fixed period—often five, seven, or 10 years—the interest rate resets, adjusting with the broader market.”
Borrowers are effectively betting that the Federal Reserve will lower interest rates before their loans adjust, which is uncertain in the current economic climate.
Author’s Perspective
Nick Lichtenberg, business editor and former executive editor of global news at Fortune, highlights that although ARMs are rising again, important conditions differentiate today’s market from 2008.
“Before the crash of 2008, a decline in home prices was inconceivable to the market. Is the modern equivalent a federal rate hike?”
Summary
Adjustable-rate mortgages are resurging due to high fixed rates, but they carry risks tied to future Federal Reserve decisions, making them a cautious bet for homebuyers.
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