Adjustable Rate Mortgage

An adjustable-rate mortgage generally has a low starting rate, so your initial monthly payments on an ARM will be lower than on a fixed-rate loan for the same amount. And because the amount you can borrow is based partly on how much you can pay each month, your maximum loan amount will probably be higher with an ARM. The payment will change with the rise and fall of interest rates over time. ARM's rates are set to a predetermined index and a margin is added to this index to determine the rate your loan is based on. The loan program will also specify the starting interest rate, which may be below the present market rate, the time period until the rate may adjust and the maximum rate change per adjustment period and maximum rate change over the life of the loan.
Here's how it works:

• The interest rate starts out lower than the rate on a fixed-rate mortgage, then adjusts regularly based on market indicators.
• The starting rate stays fixed for between three months and 10 years, depending on the ARM product.
• Most ARMs adjust annually, but some adjust on a semi-annual or monthly basis.
• Individual adjustments are capped at a certain amount, and the rate can never exceed the lifetime cap.
• The interest rate fluctuates with an index plus a set margin. The intervals at which the rate adjusts are predetermined by the type of ARM.

Keep in mind that the interest rate and monthly payments can increase during the loan term. You may get the most value from an ARM if you plan to move before the end of the fixed-rate period, or if you're buying at a time when rates are relatively high. The start rate is used to calculate minimum payments. This rate is not tied to an index and is fixed for a set period time as explained in the introductory period selected for the particular adjustable rate loan.

The Following is an example of the many ARM programs available and how the rates are calculated.
Standard 1, 3, 5, and 7, and now 10-year that are based on the average rate of U.S treasury rates.

11th District Cost of Funds Index or COFI
A monthly weighted average of the Savings and Loan Associations and Savings Banks in the 11th District ( AZ, CA, NV ) This rate is published on the last day of the month reflecting the cost of funds for the previous month, and usually rises and falls slower than other indices which can make it a good choice in a rising rate environment.

12 month U.S. Treasury Average or MTA Based on the previous 12 month average one year constant maturity treasury and is less volatile than other indices because it is based on a 12 month average. Index moves similar to the COFI index, but with greater fluctuation.

London Interbank Offered Rate or LIBOR
Set by the interest rates on currency traded by a group of London Banks. The LIBOR is a standard U.S. financial index that changes with the slightly intensity than the Prime Rate, and moves quicker and wider than the other indices.

A new twist on the standard ARM products is worth a little more explanation.
Hybrid ARM: This loan offers a fixed rate for a longer predetermined period of time than changes to an adjustable for the rest of the term. An example would be a 5/1 ARM. In this example the rate and therefore the payment is fixed for 5 years and then adjusts to a one year ARM for the remaining term of the loan.