Spring 2011 Mortgage Trends
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ARMs suit some, but what about you?

Mortgage trends » ARMs suit some, but what about you?

At a time when 30-year fixed-rate mortgages are hovering just above historic lows, does it make sense to get an adjustable-rate mortgage? A growing number of people seem to think so. An estimated 10 percent of borrowers, up from 3 percent in 2009, will opt for an ARM this year, according to a recent Freddie Mac survey of 112 lenders nationwide.

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Should you be among them? The answer, it turns out, depends greatly on your specific situation and your tolerance for risk. In some cases, ARMs are certainly worth a look.

Risk and reward

If you've had an ARM before and you understand the product, there can be a lot of upside to going with a variable rate, especially in the current market, according to Pat Peavley, executive vice president of McLean Mortgage Corp. in McLean, Va.

"As rates on fixed-rate loans continue to rise, ARMs will become more popular due to the lower initial rate," Peavley says. "Today, the 30-year fixed rate is around 4.75 percent, while a 5/1 ARM is still about 3.5 percent. That's a significant savings during the first five years of the loan."

ARMs aren't for everyone, though. "Many borrowers pay more for certainty because they don't expect their income to rise or they plan to stay in the home a very long time," Peavley says.

The real reason most borrowers shy away from an ARM is their own risk tolerance, says Michael Moskowitz, president of Equity Now, a direct mortgage lender headquartered in New York City.

"An ARM would save most of our customers money, but only about 15 percent of the loans we fund are ARMs because not everyone is comfortable with the risk," Moskowitz says. "If they can't sleep because they're worried about interest rates, it's not for them."

Moving plans matter

Even if a borrower has a relatively low risk tolerance, they may want to look at an ARM if they plan to move soon. These days, few borrowers stay in their houses for the 30 years it takes to pay off a fixed mortgage. If borrowers choose a 30-year fixed mortgage and end up selling well before the final payment, they've probably lost money on the deal, says Dan Green, a loan officer with Waterstone Mortgage in Cincinnati.

"With a 30-year fixed mortgage, the borrower pays a premium for stability," Green says. "An ARM allows the bank to shift some of the risk of rising interest rates on to the borrower, but it also means the borrower will pay less for the loan."

In essence, borrowers who know they're going to move soon are making a short-term bet that the lender will undercharge them during the period they occupy the home. However, that's where things get tricky, according to Green.

"Moving soon means within the next two years or less," Green says. "Choosing an ARM because you plan to move in 10 years doesn't make a lot of sense because you can't predict that far ahead to determine if it's a good deal."

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