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Please share your comments (pro or con) or questions regarding these articles and the macro view from AAMI that an Option ARM is superior to all other ARMs including Fixed-Rate programs. We will post them below:

Newsletter - Vol XX - Edition XX

 

01/04/2007: Don't rush to pay off that mortgage ... read

12/20/2006: Why I recommend an ARM vs. a Fixed Rate Mortgage ... read

01/2005: How can I increase my monthly Cash-Flow?... read

01/2005: Should I pay Points to buy down my Rate? ... read

11/2005: Macro explanation of T-Bills & its future movement ... read

02/2004: Mitigating Homeowner Payment Shocks by Alan Greenspan ... read

05/2001: The pros and cons of adjustable rate home loans ... read

09/2000: What is negative amortization? ... read

06/2000: Can the fully-indexed rate be biased? ... read

05/2000: Choosing an ARM with negative amortization ... read

05/2000: ARM vs. Fixed rate? ... read

05/2000: Debts to keep, Debts to Pay Off" ... read

04/2000: The Power Of Time" ... read

03/2000: Turn Your Mortgage Into an Asset" ... read
01/1998: Early Bird vs. Late Bird ... read
12/1997: When debt is good ... read

01/1997: Interest-Only pmt. vs. a Fixed-Rate pmt ... read

01/1995: What's in an Index? ... read

09/1994: Which Adjustable Rate Index is the Best? ... read

07/1994: The Kiplinger Washington Letter & COFI ... read

09/1991: Fixed Rates may be no Bargain ... read

01/1990: That no cost mtg. just might cost you more ... read

01/1990: "Don't sink cash into your house" ... read
 

 

 

This Month's Tip:

Risk vs. Reward ARM vs. a Fixed rate

3 factors to consider:

  1. In the worst case scenario, how long will it take my adjustable rate PAYMENT to reach the fixed rate PAYMENT I could have received for the same points and cost as an Adjustable Rate Mortgage?  Once this time frame has been established, e.g. 6.5 years, I can assume that up to this time, this has been my "reward" (extra cash) as  my monthly payments will have been lower than the fixed rate loan I could have received.
  1. The next time line or dot on my imaginary graph should be, how many years will it now take me to LOSE my initial reward (or the initial cash savings) i.e., when my ARM pmts. catch up to the fixed-rate pmts.   E.g., if it takes me another 6.5 years to lose my initial reward or savings, then at this time (year 13) will be my "break-even" point.  (However this is not taking into consideration the possibility of putting my initial 6.5 years of savings into an interest bearing account.)
  1. The "risk"... is now going into year fourteen i.e., how much money will I now start to lose if my ARM continues to rise or even stays the same?"  When will the Index that my ARM is based upon begin to drop? This is why it is so important to get a stable and slow moving Index and a low fixed Margin. With this said, all ARM have a Life time cap and if the Index + Margin were to hit the life time cap, the monthly balance on the ARM would drop; if the Index remained at its max cap, the monthly pmts. would still continue to drop as you would have a decreasing loan balance. Moreover, when and if the Index were to begin dropping, you could eventually see the ARM monthly pmt. going lower than the fixed-rate pmt.  Hence, it is also important to understand the History of your Index, and find out the yearly and life time cap associated with it.

 

FYI... "The Rule of 72" A rule stating in order to find the number of years required to double your money at a given interest rate, you divide the compound return into 72.  The result is the approximate number of years it will take for your investment to double.  For example, if you want to know how long it will take to double your money at 10 percent interest, divide 10 into 72 and you get 7.2 years.) 
 

Should I pay Points to buy down my Rate?

Point: A one-time charge by the Lender for originating a loan. E.g., a point is 1 percent of the amount of the mortgage. E.g., $100,00 X 1 Point cost you $1,000.00.

“Should you pay points in order to get a lower "fixed" Rate or a lower fixed "Margin" if getting an ARM”? Usually your loan officer with turn the question around and ask you – “How long do you plan on keep this loan?” 

 

However, recent research by Abdullah Yavas, a business professor at Pennsylvania State University's Smeal College of Business, and Yan Chang of Freddie Mac indicates quite often it doesn’t matter how long the client believes they’ll keep their current loan.  Yavas and Chang looked at 3,785 mortgages granted from 1996 through 2003. What they found was the average homeowner paid off his or her mortgage about three years before reaching the break-even point. In fact, only a mere 1.5 percent of them would have saved money by paying points.

 

Even more disturbing, their research found that when a client did pay points they almost always waited too long to refinance, mistakenly believing they needed to reach their breakeven point.

 

While this research on the surface indicates the majority of clients should not pay points, I think it’s important to note the time frame the data was collected in Yavas-Chang study.  1996 through 2003 interest rates were declining and at a pretty good pace.  Many believe the refinance volume seen in 2003 may never be repeated.

 

With interest rates stagnant or even likely to rise, I believe points should be considered based on the individual clients needs.  The recent Freddie Mac refinance report found that nearly 90% of all refinances today, were cash out, not rate and term as was likely in the Yavas-Chang study.  Although some clients may find themselves suddenly with a need for a cash out refinance, in the case of the majority it can be foreseen.

 

Break-even point - (assuming an ARM):
 

With this said, if you plan on staying in your home for 5 + years, your Broker will help you  figure out your break-even point (the dollar amount or Points paid at Settlement for driving down your Margin) vs. the savings on your lower fully-indexed rate payments if you accepted a higher Margin paying no Points. E.g., let's assume you could receive a MTA-indexed Margin of 2.00% for zero Point by taking a 3 yr. pre-pay. However, if you paid .875% of a Point, you could have received a 1.90% Margin with a no pre-pay penalty.  Now we could figure out your break-even point by taking both fixed Margins and add them to the current MTA-index then multiply by your loan amount x 30 yrs.  This would give two fully-indexed pmts. We could then estimated (assuming the Index remained the same, i.e., apples to apples) when the lower fully-index pmt. would save you enough money to off set the  .875% you paid at Settlement for this lower Margin vs. paying no Points but having a slightly higher monthly pmt.   

 

The other equation in whether to pay or not to pay Points is Closing Cost as sometimes if you take a higher Margin the Broker will receive a higher Rebate or Yield Spread

 

 

 

 

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