Freddie Mac has just released the results of its 24th Annual adjustable rate
mortgage (ARM) Survey.
The survey, a snapshot of the market taken during the week of December 17 to
December 21 based on data from 112 ARM lenders, found that starting rates
for ARMs had changed little since the 2006 survey even though the Federal
Reserve had lowered its federal funds target a full point to 4.25 percent during
that time period. In contrast, fully-indexed rates had fallen to their lowest
levels in three years, resulting in erosion in the initial-rate discount
found in the market during 2005 and 2006. The fully-indexed rate is the rate
on the index plus the ARM margin; the margin averaged about 2.75 percent across
ARM products in the survey, very similar to last year's.
The survey also found that:
- The market share of ARMs has shrunk as the interest-rate
savings of ARMs relative to fixed rate mortgages (FRMs) has narrowed.
ARMs accounted for 17 percent of loan applications in October 2007, according
to Freddie Mac's Primary Mortgage Market Survey, the lowest since June 2003
when fixed-rate loans were near a 45-year low in interest rates and refinance
activity was near a peak. (The most recent MBA survey conducted in early January
2008 puts the ARM market share under 10 percent.) Freddie Mac began collecting
ARM share data in 1995 and that share has fluctuated between an annual low of
11 percent in 1998 and a high of 33 percent in 2004. Frank Nothaft, Freddie
Mac vice president and chief economist explained that "Consumers respond
to changes in the relative cost of different loan products. As ARMs became more
expensive relative to fixed-rate loans during the closing months of 2007, the
ARM share of lending declined."
- Lenders are offering smaller discounts for introductory
Nothaft commented that "Disruptions in the capital markets beginning in August
and an increase in delinquencies on ARM product have led to a sharp decline
in interest-rate discounting and a tightening of credit underwriting on ARMs
in recent months. A year ago, the initial-rate discount on the popular 3/1
and 5/1 hybrid products was about 1.8 percentage points. In our latest survey,
the rate discount had virtually disappeared on these products."
- 3/1 and 5/1 hybrid ARMS are the most widely offered products
Annually adjusting ARMs with an initial fixed-rate period of more than one
year, known as hybrid ARMs have, over the last few years, become increasingly
popular and the hybrid with an initial fixed-rate period of five years, known
as 5/1 ARMs, have been the dominant choice of consumers. The average initial
interest rate on 5/1 hybrid ARMs was 6.00 percent in the 24th Annual ARM Survey,
or about 0.5 percentage points above the rate on the traditional 1-year adjustable,
and 0.1 percentage points below the rate on a 30-year fixed-rate mortgage. "A
5/1 hybrid ARM provides the consumer the comfort of knowing that the interest
rate will be fixed over the first five years of the loan. However, the interest
rate may jump as much as five percentage points on the fifth anniversary. Thus,
the product has been popular with families who plan to have the mortgage for
five years or less," Nothaft observed. The 5/1 hybrid was also the most
widely available ARM product, offered at more than 90 percent of lenders canvassed.
According to Nothaft, "Delinquency rates on prime ARMs have
moved sharply higher over the past year, and are well above rates on prime fixed-rate
loans according to the Mortgage Bankers Association. They have reported that
the serious delinquency rate on prime ARMs was 3.1 percent, compared with 0.8
percent for prime fixed-rate loans as of September 30, and with 1.1 percent
on prime ARMs one year earlier. The Federal Reserve found in October's Senior
Loan Officer Survey that 41 percent of commercial banks had tightened underwriting
standards for prime mortgages during the third quarter, and 60 percent of banks
offering non-traditional loans had as well. Tighter underwriting and reduced
initial-rate discounts have diminished the appeal of ARMs with consumers."