Rapidly rising interest rates have been driving a growing number of home buyers to adjustable rate mortgages, which have grown from a 3.4% share of all conforming home loans in December 2013 to a recent high of 9.9% in March 2014.
The unpredictability of ARMs has given them a bad name for some people, but ARMs are making a comeback.
ARMs have grown from a 3.4% share of all conforming home loans at the end of 2013 to just shy of 10% in March 2014.
While some have said this is a warning sign of a return to risky pre-recession lending, Cameron Findlay, chief economist at Discover Home Loans says that’s not the case at all. Today’s ARMs are very different, Findlay says, for three reasons.
1) Safer And Smarter
There is a critical distinction to make between the hybrid ARMs offered in today’s marketplace and the interest-only products that were widely associated with the financial crisis. Hybrid ARMs, which have fixed interest rates for an initial period of time and includes period and lifetime caps, can offer a significant benefit over 30-year fix rate mortgages.
2) Smart, Informed Borrowers
ARMs can be a viable and responsible alternative to fixed rate loans in the current market – but they are not for everyone. ARMs will provide the most benefit to borrowers who make smart, informed choices based on their home-buying plans. Recently most ARM borrowers have chosen a 5/1 Hybrid with a 2/2/5 structure, meaning the rate is fixed for the first five years, both the initial and subsequent adjustments are capped at 2%, and the loan has a lifetime cap of 5% in adjustments. For a borrower who only plans to live in a home for seven years, this type of loan can provide savings over the first five years when compared to a 30-year fixed rate loan in the current rate environment.
3) Sensible Alternative to Rising Rates
While there continue to be widespread misconceptions that ARMs are simply an alternative for those who cannot afford traditional loans, the market dynamics that are driving more borrowers towards ARMs tell a different story – and one that makes a great deal of sense for many consumers. Over the 18 months, and particularly since the Fed announced its decision to “taper” its economic stimulus program, the rate for a 30-year fixed-rate home loan has risen by more than a full percentage point from 3.31 to 4.40%. In that time, the spread between Hybrid ARMs and fixed-rate loans has ballooned, as increases in adjustable loan rates have moved at a much slower pace. Today, a 5/1Hybrid ARM is 0.96% less than a 30-year fixed rate loan.