1. During the refi boom of 2002-2007 adjustable rate mortgages always had lower interest rates than fixed rate mortgages. In most cases they were considerably lower. As an example you could get a 3 year ARM with an interest almost 2% lower than a 30 year fixed mortgage. This was the same case for the 5 year, and 7 year ARM’s too.
2. There was so much talk about adjustable rate mortgages being for only sub prime borrowers but in reality most of the people that took out an ARM had good credit. They either liked the sound of the lower interest rate, thought rates were going to come down on the 30 year fixed before it adjusted, or just listened to their mortgage broker tell them that they would refinance them in a couple years before their rate adjusts (of course they will, more revenue for them).
3. For some people with good credit they could only afford the house with the lower interest rate so they had to take it. Many did not think what was going to happen when it adjusted or assumed by that time they would be making more money and be able to afford the new payment.
4. What many did not for see is this foreclosure crisis we are in right now happening. Real estate had always been one of the safest investments anybody could make. Home prices have always gone up and why would they stop? No reason for them to stop, right?
5. It did stop and has basically turned the stock market around very quickly. All of the financial gains people made in real estate investments are now gone and many owe more than what the house is worth.
6. The people with good credit are trying to refinance their homes but cannot do it because of changes in getting qualified for a new mortgage. So now the people who thought they were gaming the system by taking a ARM are being gamed right back by simple economics.
7. Big banks, hedge funds, investment firms and other financial companies made a ton of money off of these adjustable rate mortgages. Everybody and their mother was either buying a new home, refinancing their current home, buying a rental property, or picking up a second home with an adjustable rate mortgage. There was so much new business and profits coming in because it almost made to much sense not to get an ARM.
8. Now with the foreclosure mess going on all of the adjustable rate loans originated in the past 5 years have either recently adjusted or are about too. These people can’t get any help from their banks and many people have no where to turn but to remain in their loan and ride out the remaining term.
9. The banks are realizing that maybe adjustable rate mortgages are not a good thing to be promoting anymore because of the long run its really setting up the clients for failure. Who knows how high their payment will go and how are they going to be able to refinance the home when they can’t qualify based on the new payment? They will not be able to. The banks are losing a ton of money from all of the adjustable rate loans going into default. The losses are coming from the amount of money lent + the interest lost over the life of the loan + having to maintain the property through the foreclosure process. The banks just want to collect the interest from your monthly payment and that is it.
10. What is happening now is the banks are saying to the secondary market that they do not want anymore adjustable rate loans in their portfolios because they are too risky. Risk is a major factor in deciding mortgage rates. The banks would rather now have good long term fixed investments coming in every month instead of gambling with what might happen in 3, 5, or 7 years with an ARM. As of July 31, 2008 interest rates on adjustable rate mortgages are about .5% higher than a normal 30 year fixed rate loan. The foreclosures going on around the country have pretty much contributed to the death of the adjustable rate loan. Its probably a good thing because now the banks, home owners, states, federal government, and local governments can all expect to know what is going on now. The banks will know what kind of rate of return they will receive from the loan. The home owner will know what their payment will always be. Local governments will be able to collect property taxes because less homes will be going into foreclosure. Hopefully the federal government will not have to pass another new housing bill in the future to clean up a mess that should have been able to see before this happened. All of these factors, mainly how risky adjustable rate mortgages are is why interest rates on ARM’s will stay higher from here on out than on conventional fixed rate mortgages.