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Adjustable-Rate Mortgages Losing Luster In First Quarter

May 25, 2007

McLean, VA – In the first quarter of 2007, 89 percent of borrowers who originally had a 1-year adjustable-rate mortgage (ARM) chose a new fixed-rate mortgage when they refinanced and 84 percent of borrowers that initially had a hybrid ARM did so, according to a study released by Freddie Mac.

"Mortgage rates on 30-year fixed-rate loans averaged 6.2 percent in the first quarter, while rates on 1-year Treasury-indexed ARMs were 5.5 percent in the Primary Mortgage Market Survey®," said Amy Crews Cutts, deputy chief economist for Freddie Mac. "In one year, the fully indexed rate that these ARM loans will adjust to exceeds the 30-year fixed mortgage rate today by a wide margin, so borrowers are choosing more and more to take the security of a fixed-rate loan when they refinance.

"We do see some fixed-rate borrowers refinancing into hybrid ARMs, which are fixed for a period, most often for five years, and then become adjustable every year thereafter. Mortgage rates on amortizing 5/1 hybrids averaged 6.0 percent in the first quarter, but borrowers can cut their monthly payments further by opting for an interest-only hybrid ARM loan. Just 6 percent of borrowers who had a 30-year fixed-rate mortgage chose a hybrid ARM of some type when they refinanced in the first quarter. Generally speaking, fixed-rate borrowers like to stick with fixed-rate products. This was true even in 2004, when there was a wide gap between 30-year fixed mortgage rates and 1-year ARM rates, making ARMs relatively very attractive, and just 8 percent of 30-year fixed-rate borrowers jumped over to an ARM product when they refinanced."

The Refinance Product Transition Report indicates that refinancing into the 30-year fixed-rate mortgage (FRM) among borrowers who originally had a different loan product decreased in the first quarter of 2007 relative to the fourth quarter of 2006. However, 82 percent of borrowers originally holding 30-year FRMs decided to refinance back into the same product, compared to 81 percent in the fourth quarter of 2006, and 77 percent a year ago, in the first quarter of 2006.

Borrowers who originally had a 1-year ARM, with interest-rate adjustments occurring on equal frequencies for the life of the loan, stayed with a 1-year ARM product 2 percent of the time when they refinanced in the first quarter of 2007, level with the share in the last quarter of last year but down from 3 percent a year ago. Seven percent of 1-year ARM borrowers switched into a hybrid ARM product in this quarter, down from 9 percent in the fourth quarter of 2006 and also down from 10 percent in the first quarter of 2006.

These estimates come from a sample of properties on which Freddie Mac has funded at least two successive loans. Transactions are further screened to verify that the latest loan is for refinance rather than for home purchase. Freddie Mac plans to release the Refinance Product Transition Report on a quarterly basis along with its Cash-out Refinance Report.

Soure: Freddie Mac

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