Homebuyers Revisiting Hybrid Mortgage Products

From The Wall Street Journal Online comes a report of shifting investor strategies as long term bond rates rise

The recent bond market rout is prompting some fixed-income investors and mortgage shoppers to rethink their strategies.

Some investors have begun buying bonds with longer maturity dates, taking advantage of yields that moved higher as bond prices fell. Meanwhile, as rates on 30-year mortgages also jumped, some borrowers have begun taking another look at adjustable-rate mortgages. Bank of America Corp., for instance, says it’s seeing increased interest in hybrid ARMs that carry a fixed rate for the first three, five, seven or 10 years and then adjust annually.

In the Manhattan real estate market, I haven’t seen much of a trend away from these products so I am surprised to hear that BofA has seen an increase in interest in Hybrid ARMs.  A large percentage of my buyers and those who are purchasing property that I represent continue to borrow utilizing these Hybrid products.  Most of my buyers, including those who are in the mortgage industry, are attracted to the 10 year interest only mortgage with a fixed payment for 30 years (of course the amortization schedule adjusts after 10 years if you only make interest payments) as it gives them both security and flexibility with payments (this is the product my wife and I have on our current home).  Why this product versus a standard 30 year fixed rate loan?

The benefits of taking out a hybrid ARM have increased recently, although the spread between rates on hybrids and fixed-rate loans is small by historical standards. Borrowers can cut the rate on their loan by about 0.28 percentage point by opting for a hybrid ARM that’s fixed for five years instead of a 30-year fixed-rate mortgage. That spread is the widest since October, but well below the 0.68 percentage-point average over the past 14 years, according to HSH Associates.

A quarter of a percentage point when loan amounts average $1M (half of a car lease payment perhaps?) is a significant enough monthly savings to make these products attractive.

For now, hybrid ARMs are likely to get more attention from borrowers with larger loan balances. "The jumbo category [loans above $417,000…that’s nearly every property on the island of Manhattan] is where you’re probably going to see the most movement," says Brad Blackwell, a national sales manager for Wells Fargo & Co., in part because borrowers with larger loan amounts tend to be more sophisticated. The potential savings from switching to an ARM can be greater, too, for borrowers with larger loans. 

It’s also imperative to note that Manhattan buyers differ from much of the rest of the country in their transiency.  The average apartment owner moves every 5 to 7 years here  which means they likely won’t have to worry about that adjustment after 10 years.

With interest rates not likely to fall significantly in the coming months, I suspect we will continue to see interest rate sensitive buyers continuing to utilize Hybrid ARMs to purchase their homes.   It remains to be seen how interest rate rises will impact buying power and ultimately sales prices.  Only time will tell. 

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