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Interest
Only ARMs
How does an Interest Only Arm work?
Every
adjustable rate mortgage starts with a margin, which will never
change for the life of the loan. This margin is determined by
the Lender when locking in the interest rate. This margin is
added to an Index to determine your interest rate when your ARM
adjusts, whether that is annually, 3 years, 5 years, etc.
There are
5 main Indexes we will describe below which are all extremely
stable indexes, yet some are tied to different products.
MTA (Monthly Treasury Index)- This
index is one of the most stable indexes available because it is
calculated by a 12 month rolling average which in turn causes
very little movement of the index. Loans with a MTA Index so
rarely have any sizeable fluctuations in rate that a lot of these
programs are not sold by the Lender and usually serviced there
too, which means you make the payment to the SAME company for as
long as you have the loan.
COSI (Cost of Savings
Index)- One of the
largest Savings and Loans in the 11th District (CA, AZ, NV)
offers a mortgage program tied to its own "cost of savings."
Simply put, this Lender borrows money from consumers in the form
of deposits, i.e. C/D's, checking and savings accounts, and then
lends the money out as home mortgages. Then they place a fixed
"Margin" on top of their own Index. Historically, the COSI has
moved up and down much less rapidly than indexes based on the
PRIME Rate, the Federal Reserve discount rate, or Treasury bill
rates. This is because COSI is composed primarily of fixed-rate
deposits of varying maturities (i.e. C/D's.) Since rates on
these deposits are not affected by changes in market interest
rates until the deposits mature, the average interest rate on
deposits in a particular month reflects, to a significant
degree, interest rates that were in effect in previous months.
CODI (Cost of Deposits
Index): One of the
largest Savings and Loans in the 11th District (CA, AZ, NV)
offers a mortgage program tied to its own "3-month certificates
of deposits." Simply put, this huge Lender borrows money from
consumers in the form of deposits, i.e. C/D's. Then they create
their own Index, add a fixed "Margin" on top of it, then lend
the money out as home mortgages. The CODI is the average of the
most recently published monthly yields on 3-month certificates
of deposit (secondary market) for the twelve most recent
calendar months as published by the Federal Reserve Board
("Index"). 3-month certificates of deposit and responds a little
more quickly to the changes in the marketplace than either the
COFI or COSI. It, like COFI and COSI, is currently moving
downward, but it's averaging about .50 bps lower.
COFI (Cost of Funds
Index): Most COFI mortgages are never sold. This says a lot about
the "confidence" that the Lender has in the Index; as this Index
moves so slowly, and has so many built-in safety caps, the COFI
Lender isn't afraid that the Index will go so high that you
could potentially not be able to make your future monthly
payments, and they would have to foreclose on your house. The
funds used as a basis for the calculation of the 11th District
Cost of Funds index are the liabilities at the District savings
institutions: money on deposit at the institutions, money
borrowed from a Federal Home Loan Bank (known as advances) and
all other money borrowed. The interest paid on these types of
funds is the cost of these funds.
LIBOR (London Interbrain Offered Rate): The interest rate
offered by a specific group of London banks for U.S. dollar
deposits of a stated maturity. LIBOR is used as a base index for
setting rates of some adjustable rate financial instruments,
including Adjustable Rate Mortgages (ARMs). LIBOR-indexed ARMs
offer borrowers aggressive initial rates (lower than many other
ARMs) and has proved to be competitive with such popular ARM
indexes as the 11th District Cost of Funds, the 6-Month Treasury
bill, and the 6-Month Certificate of Deposit. With the LIBOR
ARMs borrowers are generally protected from wide fluctuations in
interest rates by periodic and lifetime interest rate caps.
LIBOR ARMs usually do not have negative amortization.
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