If you have an adjustable rate mortgage (ARM), it might be time to think about refinancing, especially with interest rates on the rise. ARMs are typically tied to a short-term rate index like the Fed Funds rate or LIBOR, and when these rates go up, so does your mortgage rate.
Historically, homeowners with ARMs have enjoyed lower rates compared to those locked into a 30-year fixed mortgage. This has generally been a good strategy since many people sell their homes within 7 years, and long-term bond yields have been dropping for over 30 years. But with the Fed raising the Fed Funds rate for the first time since 2004, the landscape is changing. ARM rates that used to adjust downward after the fixed period are now likely to increase.
Now is a particularly good time to consider switching to a fixed-rate mortgage. Rates for new mortgages have actually fallen by about 0.5% since the Fed’s rate hike, due to the market’s dynamics rather than direct influence from the Fed. Investors flocking to the safety of Treasuries amidst global recession fears have helped keep mortgage rates low.
For example, back in January 2015, I managed to secure a 2.25% rate on a 5/1 ARM jumbo loan with Chase, although it fell through later due to income verification issues. Currently, the best rate I can find is slightly higher at 2.375%, but it’s still competitive. It’s important to understand that banks are now more cautious, maintaining higher profit margins than they did a few years back due to economic uncertainties.
If your ARM is set to adjust soon, you could be facing a significant increase in your interest rate. For instance, if my mortgage were to adjust today, it would jump from 2.625% to 3.39%—a 29% increase, pushing the monthly payment on a $1,000,000 loan from $4,017 to $4,429.
Understanding how ARMs work is crucial. They’re linked to indices like LIBOR, which closely follows the Fed Funds rate. With the Fed’s recent rate hikes, LIBOR has increased sharply. Although the Fed’s future actions are uncertain, if your ARM adjusts during this period, it could lock in a higher rate for a year.
Here are a few steps for ARM holders:
1. Know your mortgage’s margin and index. Most ARMs are tied to the 12-month LIBOR.
2. Find out how often your mortgage rate adjusts after the initial period and what the adjustment cap is.
3. Check the latest refinancing rates for different types of mortgages and see if switching makes financial sense.
4. Consider refinancing costs against potential interest savings. Aim for a breakeven point that is shorter than the time you plan to keep the property.
Lastly, refinancing during an economic downturn can be a smart move. With lower rates now available, it’s a good opportunity to secure a lower payment before potential job loss or economic slowdown, which might make refinancing harder or impossible later. Always shop around to get the best rates and make lenders compete for your business.
