Is The Adjustable Rate Mortgage Just A Fair Weather Financial Friend?
Given the option, homeowners have always tended to prefer fixed interest rates on their home loans, as opposed to adjustable rates. When you’re paying monthly it’s nice to be able to count on the rate always staying the same. It gives you a sense of control. As you might expect, on the other side of the equation, lenders would prefer to have the control to adjust rates periodically, in response to increased interest rates in the market.
Less Now And More Later Maybe
Before you rush to judge adjustable rate mortgages (ARMs), let’s look at some of the features that they bring to the table. As it turns out, there may be times when having an adjustable rate mortgage works to your advantage. It depends on how the economy performs and how the indexes that define interest rates behave, over extended periods of time. Also, it depends on your attitude towards taking chances with your finances.
Ultimately, the Federal Reserve Board sets market interest rates in response to inflation. Lenders are willing to trade a rate that is closer to the current rate, in return for the chance to charge you a higher rate later, if market rates go up.
When you are deciding whether or not to take on an ARM, you need to consider how much of a discount the initial rate is, compared to the market rate for an equivalent fixed rate mortgage. It will tend to be less expensive and the savings from the first fixed period of your ARM must be weighed against the long-term cost that comes after it adjusts.
For example, a 5/1 ARM home loan means that the first adjustment occurs after five years (sixty months) and adjusts annually after that. That will give you five years at a reduced interest rate, so you can build up some equity. Unfortunately ARMs do have risks. If inflation is significantly higher than you expected, when it’s time to adjust, it will wipe out any savings you initially gain from an ARM very quickly.
Almost Limitless Adjustable Rate Combinations And Permutations
This is just one example of the kind of structures that you can have in an ARM. If you think it might be the right choice then be prepared to shop around before you commit yourself to one particular structure. Finally, you need to be very clear about you attitude toward risks. An ARM may look good on paper but ask yourself if the thought of a pending rate change will cause you to lose sleep at night.
The hope on the part of the lenders, and the fear on the part of the borrowers that rates will increase drastically may never come to pass. In which case, it will work out as a savings to the homeowner, who took a chance on an adjustable rate mortgage at the beginning of the term.