The mortgage landscape is ever-changing, responding to shifts in the economy, changes in interest rates, and the evolving needs of homeowners. One trend that has been gaining traction recently is the increasing demand for adjustable-rate mortgages (ARMs).
"Adjustable-Rate Mortgages (ARMs) are gaining popularity as interest rates rise."
A Surge in Demand
Why the Shift?
The increase in demand for ARMs is largely due to the current economic climate. As interest rates rise, adjustable-rate loans become more attractive to buyers who prefer not to lock in a high rate. The average contract interest rate for 30-year fixed-rate mortgages with conforming loan balances ($726,200 or less) decreased slightly to 7.86% from 7.90%, but it’s still 80 basis points higher than the same week one year ago. In contrast, the average contract interest rate for 5/1 ARMs decreased to 6.77% last week.
“As higher rates continue to impact affordability and purchasing power, ARM loans increased almost 10 percent last week and continued to gain share, growing to 10.7 percent of all applications,” said Joel Kan, an MBA economist. This suggests that home buyers are searching for ways to make the cost of taking on a mortgage cheaper, turning to adjustable-rate mortgages which offer a lower rate up front.
The Mechanics of ARMs
An ARM is a 30-year adjustable-rate mortgage that has an initial fixed interest rate period — three, five and seven years are especially popular. Once that period ends, the interest rate adjusts each year (or possibly six months) after that. When this adjustment occurs, the interest that accrues on your loan is recalculated based on your principal balance and the new rate. Your new monthly payment can rise or fall along with the interest rate. If the interest rate goes up, your payment will increase because each payment must cover the larger amount of interest that accrues. If the rate falls, the payment will decrease to account for the lower amount of accrued interest.
A Word of Caution
While ARMs can offer initial savings, they come with their own risks. Since the rates are fixed for shorter terms, there’s the potential for rates to increase in the future. Therefore, it’s always a good idea to consult with a financial advisor or do thorough research before making any major financial decisions.
The Current Trends
Residential mortgage debt in the U.S. totaled $11.92 trillion as of the fourth quarter of 2022, according to the Federal Reserve Bank of New York. Mortgage lenders issued 1.52 million residential loans in the fourth quarter of 2022 — the biggest decline since 2014, according to ATTOM. The average balance for a first mortgage reached a record high in 2022, at $323,780, according to the Mortgage Bankers Association. Sixty-two percent of respondents to a 2023 John Burns Research & Consulting survey believe 5.5 percent is the “historically normal” mortgage rate, with 71 percent of would-be homebuyers reluctant to purchase at a rate higher than that.
Conclusion
The rise in demand for adjustable-rate mortgages is a clear indication of how the mortgage landscape is adapting to the current economic climate. As interest rates continue to fluctify, it will be interesting to see how this trend evolves. Whether you’re a first-time homebuyer or looking to refinance, it’s important to understand all your mortgage options and choose the one that best fits your financial situation.
Stay tuned for more updates on the mortgage industry and remember, knowledge is power when it comes to making informed financial decisions.