Mortgage reset

Teaser ARMS

Through 2012, millions of homeowners will find their ARM rates reset for the first time.

Adjustable-rate mortgages exploded in popularity from 2003 through 2006. A slow-motion explosion of another kind will occur through 2012. Millions of homeowners will find their ARM rates reset for the first time.

Millions of homeowners will find their ARM rates reset for the first time. Rates will detonate, and monthly payments will blow sky-high.

Many homeowners didn't understand the complex mortgages they got. They are vulnerable to nasty surprises when their mortgage rates reach their first adjustment.

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About one in five mortgage applicants nowadays gets an adjustable-rate mortgage, or ARM. The hardest-to-understand element of an ARM is the index.
When you get an ARM, two main factors determine the rate you pay: the index and the margin.

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The index is a rate set by market forces and published by a neutral third party. The margin is an agreed-upon number of percentage points that is added to the index to determine your rate.

A thorough mortgage shopper will run across a bunch of acronyms to denote various ARM indexes, such as COFI, LIBOR, MAT and CMT.

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Each index responds at its own peculiar pace to the economy's ups and downs.

Indexes can be divided into two broad categories: those based upon rate averages and those based upon more volatile spot rates. There is some overlap between the two categories.

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ARMs indexed to average rates tend to move more slowly, in rather gradual steps, whether the markets are rising or falling. ARMs based on spot rates go up and down abruptly.

ARMs based on averages tend to have higher margins than ARMs based on spot rates.

Someone who gets an ARM indexed to rate averages gets one benefit and one drawback.

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The benefit is that, in a changing rate environment, an average index will move more slowly, so the payment changes more slowly.

The drawback is that the margin typically is higher, and so the rate you pay is higher.

One way to compare ARMs with different index options is to look at their fluctuations in a graph. That will help you understand how rapidly and how much the rates change.

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