Mortgage rates stabilize, buyers pull back
Mortgage rates stayed flat amid signs that consumers
are becoming more selective about their spending.
The benchmark 30-year fixed-rate mortgage stayed
the same at 6.35 percent, according to the Bankrate.com national
survey of large lenders. A basis point is one-hundredth of 1 percentage
point. The mortgages in this week's survey had an average total
of 0.39 discount and origination points. One year ago, the mortgage
index was 5.39 percent.
The 15-year fixed-rate mortgage fell 3 basis points
to 5.71 percent. The one-year adjustable-rate mortgage fell 1 basis
point to 4.11 percent.
Consumer confidence in May budged upward less than
had been expected, orders on durable goods were down 2.9 percent
in April and sales of new homes fell in April. Mortgage rates stayed
flat or eased slightly along with those latter indicators.
The stabilization in mortgage rates
comes as a relief to borrowers after eight straight weeks of rising
rates. Even though it looks like mortgage rates are on an upward
trend overall, adjustable-rate mortgages, or ARMs, are becoming
popular. More than one third of borrowers are taking them. At least
initially, ARMs have lower rates than fixed-rate loans, and the
monthly savings account for their appeal. Many mortgage bankers
insist that even more people would get ARMs if they understood them
"Do the math," says Larry Goldstone,
head of Thornburg Mortgage, a lender that specializes in ARMs. "I
think what's important here is the importance of doing the math,
because I think that people tend to draw the wrong conclusion. They
let intuition drive their decision process without doing their homework."
Intuition can be wrong
Intuition tells people that adjustable-rate mortgages are risky
and volatile and that borrowers "are going to feel sorry they
took those kinds of loans," Goldstone says. But he points out
that the rates for the ARMs that are considered the riskiest --
those that adjust every month or six months -- are about three percentage
points lower than those for 30-year fixed-rate mortgages. Those
ARM rates might or might not go up sharply in the future, but they
certainly are low now.
"In the meantime, you're saving money
every month on your mortgage payment," Goldstone says.
The smart thing to do is to use a mortgage
calculator or spreadsheet program to run various interest rate
scenarios. "These calculations aren't being done," Goldstone
says in a phone interview, with frustration evident in his voice.
For example, consider a $200,000 loan. You're weighing
a 30-year fixed loan at 6.5 percent vs. a 5/1 hybrid ARM at 5.38
percent. The 5/1 ARM keeps that 5.38 percent rate for the first
five years, then adjusts annually after that. The rate can go up
a maximum 2 percentage points a year, and up a total of 6 percentage
points lifetime. That's the worst-case scenario. Assume it happens
and run the math.
OK, let's do the math
Monthly principal and interest payments on the 30-year fixed are
$1,264.14. Monthly payments on the 5/1 ARM are $1,120.57 -- a saving
of $143.57 a month.
Multiply those amounts by 60 months, or five years.
The 30-year fixed mortgage costs $75,848.40 over that time. The
5/1 ARM costs $67,234.20, or $8,614.20 less over five years.
Let's say the 5/1 ARM rate jumps to 7.38 percent
in the sixth year, the highest it could go up in one year. The monthly
principal and interest payment would rise to $1,382.03. At that
point the monthly payment is $117.89 higher than for the 30-year
fixed, for a total of $1,414.68 more during the sixth year.
The $8,614.20 savings in the first five years, minus
the $1,414.68 higher cost in the sixth year, means that after six
years, the ARM has cost $7,199.52 less than the fixed-rate loan.
If the ARM rate jumps another 2 percentage points
in the seventh year, to 9.38 percent, principal and interest payments
are $1,664.23 a month, or $400.09 more than the 30-year fixed. The
ARM costs $4,801.08 more in the seventh year, but still, after seven
years, the ARM borrower has saved $2,398.44.
If the ARM rate jumps to its lifetime cap of 11.38
percent in the eighth year, the monthly principal and interest rise
to $1,962.29 a month, or $698.15 more than the 30-year fixed. The
break-even point, when the cumulative payments on the ARM exceed
the total payments on the fixed-rate mortgage, comes after seven
years and three months.
The way Goldstone and other lenders look at it, the
worst-case scenario is unlikely to happen and, anyway, you probably
will move before the monthly payments get out of hand. Half of homeowners
sell their homes and move within about eight years. If you think
you will move within five or six years, it's a good idea to compare
a fixed rate with ARMs.
If you are pretty sure that you will remain in the
house for 10 years or more, a fixed rate is probably your best bet.
And if you're not confident that you could handle the payments if
the interest rate rose 3 or 4 percentage points in a few years,
you should stick with a fixed-rate mortgage.
Don't get an ARM for frivolous reasons, Goldstone
cautions: "Instead of taking the savings and spending it on
vacations and automobiles, maybe you ought to spend it on extra
principal and build equity," he says. It sounds less like a
suggestion and more like a command.