Mortgage interest rates are rising. If you’re looking at adjustable-rate loans, know the risks
A few years after risky mortgages and related investments led to a global financial collapse, the Federal Reserve put out a handbook to help consumers make smarter choices about their home loan options. The focus was on adjustable-rate mortgages, whose exotic variants were among the prime culprits in the meltdown.
“To compare two ARMs or to compare an ARM with a fixed-rate mortgage,” the handbook states, “you need to know about indexes, margins, discounts, caps on rates and payments, negative amortization, payment options, and recasting (recalculating) your loan.”
Wait, what?
In plain English, the Fed was cautioning home buyers that it’s harder to predict the cost of an adjustable-rate mortgage than a plain vanilla fixed-rate mortgage. You have to understand not just your current payments but also how the lender will calculate the amount you will pay after the interest rate starts to adjust. You also have to understand how the principal amount you owe may grow instead of shrink, and what your potential offramps might be.
It’s a lot to think about, which is one reason consumers flocked to simpler fixed-rate mortgages as the interest rate for 30-year fixed mortgages fell from about 6.5% at the height of the last recession to 2.7% in December 2020.
But rates for those mortgages have bounced
