January 19, 2011 (Chris Moore)
Adjustable Rate Mortgages (ARMs) that had become the mortgage of choice during the housing boom has become virtually non-existent as a mortgage option today. In a report released by the Federal Reserve, the once mighty ARM which was the choice of 70 percent of all borrowers in 2004, now only commands seven percent of the mortgage market.

The report, released by the New York Federal Reserve, believes there are two theories for the once mighty loan’s fall.

One, was that when the securitized mortgage market collapsed in 2008, a place where ARMs were predominate, homebuyers had less access to these products.

But the NY Fed’s second theory coincided with what Freddie Mac Chief Economist Frank Nothaft found: Homebuyers were simply more aware of the risk.

“Households have become more risk averse following the publicity given to high default rates on subprime ARMs, and the reports of ‘payment shock’ associated with interest rate resets on ARMs,” the NY Fed said in its report.

And if they didn’t hear it from the news, they heard from their many friends and family members who took out these risky loans only to lose their homes two or three years later when the rates adjusted to market conditions.

And as recently as 2009, ARM’s had fallen to just three percent market share, with government mortgage giant Freddie Mac stating it is doubtful the mortgage product will return to those glory days of 2004 any time soon.

This survey also found the most popular product is the 5/1 ARM, with 96 percent offering it. The 3/1 ARM is offered by 71percent, the 7/1 ARM by 64 percent, and only 9 percent of lenders surveyed offered a 3/3 ARM, which adjusts once every three years. The one-year conforming ARM is offered by only 45% of ARM lenders.

Nothaft added that if fixed-rate loans currently continue to stay at such low levels, that homebuyers do not see the incentive for ARMs, which are only slightly lower. The NY Fed drew a similar conclusion as well, citing historical patterns that showed borrowers preferred fixed-rate loans over ARMs when both were advertising low rates.

However, Nothaft expects ARMs to gradually gain back favor with some borrowers, possibly rising to an average 9% market share by the end of 2011. And if interest rates should start to climb beyond current expectations, you can expect to see them become a more popular alternative to fixed rate loans.

Let’s all hope we learned from the last time…

Tags: adjustable rate mortgages, mortgage, arm, fixed rate loans, mortgage market, housing boom, interest rate, subprime, market share