Your ARM Might Adjust To 3.00% This Year, But What About Next Year?

ARM-holding homeowners tend to panic when their mortgage gets set to adjust; the feeling of "I better do something fast!".

If that's you right now -- if you have a conventional ARM getting set to adjust. Math is on your side. The smart move may be to let it adjust.

Conforming ARMs Are Adjusting Lower Right Now

Your mortgage rate could fall to as low as 3.000 percent. It's because of how adjustable rate mortgages work.

1. For some fixed period of time, the mortgage rate stays constant
2. When the fixed period ends, the rate changes based on a preset formula
3. Every 12 months thereafter, the rate changes again based on the same formula

The formula is (New Mortgage Rate) = (A Variable)+ (A Constant)

For home loans making their first adjustment in 2010, the chances are very good that your ARM's variable and constant are the 12-Month LIBOR -- currently near 0.843 percent and 2.250 percent, respectively. This has been the "normal" ARM setup since 2005 so so long as the 12-month LIBOR remains low, so should your mortgage rate.

But therein lies the rub. LIBOR won't be low forever.

When The Global Economy Recovers, LIBOR Will Rise

Historically, LIBOR rates track closely to the Fed Funds Rate and when the Fed starts to raise the Fed Funds Rate, LIBOR should start rising, too. It's unclear when that will happen exactly, but the Fed's hinted that hikes are coming in 2011.

LIBOR tends to rise ahead of actual Fed action.

Therefore, we should expect LIBOR to start rising within a couple of months. Maybe it'll rise by a little and maybe it'll rise by a lot. Either way, ARMs won't be adjusting downward for very much longer. And, should LIBOR return to its historical 5 percent average, your 2011 adjustment will be higher.

It may be smart to let your loan adjust in 2010, in other words, but that choice could come back to haunt you in 2011.

A New Mortgage Is As Cheap As An Adjusting One

The good news is that the same dynamic that's driving down LIBOR is bringing mortgage rates for new loans down, too. Rather than rolling the dice on an adjustment, therefore, homeowners can open a new ARM at the same rate or better than the pending adjustment rate.

In bullet points, it looks like this:

1. Let your mortgage rate adjust to 3.000% and watch it adjust again each year
2. Take a new 5-year mortgage at 3.000% and get the rate locked for 5 years or longer

Taking a new ARM looks like a complete no-brainer right now, so long as you can keep your closing costs to a minimum.  You don't want to wash out your payment savings with huge costs you'll never recoup.

Think Of The Present, Plan For The Future

So, if your ARM is adjusting and you want to know whether it's better to refinance or to just let the adjustment occur, email me directly and we can talk about making a plan.

LIBOR can change suddenly so what makes sense for you today might not make sense on the date of actual adjustment. Having a plan, therefore -- with contingencies in place -- is the best way to manage your ARM.

Call or email anytime. I'm looking forward to it.