This morning I published my 100th post since starting Oliver Reports last November.
Prior to starting OR I wrote very lengthy and detailed semi-annual reviews for the Marblehead Reporter and I remember wondering if I would find enough topics to write about on a weekly basis.Well I guess I have answered that question!
My goal remains to publish timely, short articles (and links to relevant articles written by others) in order to help you, the consumer, be better informed. These articles also appear on Facebook, while on OliverReports.com I publish additional information.
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I have a confession to make: I have never used a 30 year fixed rate mortgage in 20 years of owning homes in the US. And my jumbo mortgage, which is based on 1 year LIBOR, has just reset to 3% and would be at the same rate today as the 1 year LIBOR rate has not moved over the last month.
Adjustable Rate Mortgages (ARMs) got a bad reputation because of the shenanigans of unscrupulous lenders and brokers in the boom/bubble. And I strongly believe that these people – starting at the top – should be incarcerated and the key thrown away. On an, of course, completely unrelated topic read this article alleging that Bank of America encouraged their employees to lie to home owners.
Conventional ARMs, however, for those who understand them, are a perfectly feasible financing option. Bear in mind that the average time that a mortgage is held before the house is sold or the loan refinanced is believed to be about 7 years.
According to Freddie Mac’s weekly survey, the average rate, nationally, on a 30 year fixed rate mortgage this week was 4.46%, while that on a 5/1 ARM (meaning that the rate is fixed for 5 years and then resets each year thereafter) was 3.08%.
Now I want to make this simple, so use these numbers as a rough basis on which to work.
Over 5 years, paying 4.46% p.a. makes cumulative payments of 22.3%. At 3.08% the total is 15.4%. So there is a “saving” of 6.9%. Now ARMs adjust based on a certain index but generally cannot increase by more than 2% each year. Let’s assume that the rate goes up the maximum 2% in each of years 6 and 7. The chart below shows the cumulative interest paid:
What this means is that even if the rate in years 6 and 7 increased by the maximum each year, interest paid over the average 7 year mortgage life would still be significantly less on an ARM than on a 30 year fixed,.
Again, this is very simplistic, not taking into account matters like principal reduction and tax deduction, but it’s the way I start my analysis. And it’s the reason I have never taken a 30 year fixed loan.
You are the only person who knows your life plan and risk tolerance, but an ARM may be an option you want to discuss with your financial advisor.
One week the headlines are shouting that the recent recovery in home prices is creating the possibility of a new bubble; the next that the spike in mortgage rates is going to kill the recovery in prices and sales.
So perhaps a little perspective is called for.
If you first thought of buying a house when the 30 year rate was 3.5% and you find it is now 4.5% then that is a sharp jump. But many of us have owned houses for much longer. This chart, from Freddie Mac, confirms that mortgage rates are still at historically low levels. What you will note is that mortgage rates were much higher when home prices wee soaring. Mortgage rates are but one factor in the home buying decision.