Getting an adjustable-rate mortgage, or ARM, in a rising interest rate environment might seem like a bad idea. After all, why would a borrower want a loan that’s susceptible to rate hikes in the future?
It’s important to consider that an ARM starts with an initial period that has a fixed interest rate. Depending on the terms the loan, that period can end after just one year or even after a decade.
Once the introductory period is up, the interest rate moves up and down with another interest rate, called the index. Most ARMs are tied to one of three major indexes: the weekly constant maturity on the one-year Treasury yield, COFI or Libor. ARMs have caps that limit the amount rates and payments can change.
A major reason ARMs are appealing: The introductory rate on adjustable-rate mortgages is often lower than the typical rate on a 30-year fixed-rate mortgage. For example, the average rate for a 5/1 adjustable rate-mortgage is just 4.06 percent, while the average rate on a 30-year fixed mortgage is 4.55 percent, according to Bankrate data from April 4.
These borrowers could still benefit from an ARM
Even in a rising rate environment, an ARM may make sense for certain borrowers, says Todd Jones, president at BBMC Mortgage, a division of Bridgeview…