Adjustable-rate mortgages are back — but it’s not like 2008 冬前2022-10-05 14:19:23

The share of borrowers applying for an adjustable-rate mortgage topped 10% in the third week of September, according to the latest data available from the Mortgage Bankers Association. That’s the fifth time this year it has crested 10% — it happened twice in May and twice in June — and the share of applications is more than three times the level versus the start of the year.

‌It makes sense, too. After all, the 30-year fixed mortgage rate has climbed three percentage points this year alone to the latest 6.7% with the rate on the five-year ARM at a more affordable level of 5.3%.

‌But ARMs might give some investors the heebie jeebies. That’s especially true if they were around in, say, 2008 when foreclosures across the country spiraled out of control and triggered the collapse of Bear Stearns and Lehman Brothers, with AIG nearly falling victim, too. Ultimately, you might recall, the government had to take over Fannie Mae and Freddie Mac as the subprime mortgage crisis morphed into a full-blown global financial catastrophe.

‌At the heart of those foreclosures that helped start that domino effect? A lot of ARMs. Teaser rate ARMs. One- to two-year ARMs. Pick-a-payment ARMs. No-documentation-needed ARMs. Negative amortization ARMs. In short, bad, bad ARMs with loosey goosey standards.

‌"Lenders simply got greedy," Jim Gaines, research economist at Texas A&M’s Real Estate Center, told Yahoo Finance. "Sell that loan to someone else and offload the risk if something bad happens."

In fact, ARMs have helped people get into homes with a more affordable payment since at least the early 1990s. Homeowners often refinanced later into a fixed loan. And they were common. The share of borrowers applying for one went as high as 35% in December 1994, when the Federal Reserve tightened policy preemptively when it saw a potential rise in inflation and the 30-year mortgage rate jumped from just under 7% to over 9%.

‌Overall, the long-term ARM share average is 12%, according to Joel Kan, associate vice president of economic and industry forecasting at MBA, who also pointed out that three-quarters of ARMs originated today have five-, seven-, or 10-year fixed periods before their initial rate adjusts.

‌“The borrower has a longer horizon with those ARMs to build equity,” Kan said, noting the longer timeframe reduces foreclosure risk and gives borrowers a better chance to refinance.

‌Underwriting today is also stricter, similar to the 1990s, when limiting rate adjustments was the “hot topic” of the day, according to Gaines. After the financial crisis in the aughts, Congress rewrote the rules on who could get an adjustable-rate mortgage as part of the massive Dodd-Frank Act that reformed the financial system and added more oversight of the industry.

‌So today’s ARMs are more benign ones, these experts reassured me, and — at 10% of applications — still lag in popularity than in the run-up to the Great Recession when as many as a third of borrowers were applying for one in 2004 and 2005. Gaines thinks we can hit that ARM share again as rates head toward 7%, where he predicted this summer they would go by the end of the year. Even so, there’s no reason for deja vu.

‌“Right now, I think it’s just fine as long as the lenders continue as they have in the last decade to apply reasonable due diligence and underwriting standards as they did in the 90s,” Gaines said. “We didn’t have problems until they started making loans to people who shouldn’t have them.”