Which index? The basis of flexible-rate mortgages
Many of today's mortgage loan borrowers as home buyers are opting for the adjustable rate mortgages, according to a recent financial institution survey. Adjustable-rate mortgages (ARMs) are those whose interest rates go up or down (at specified periods) according to fluctuations in a particular financial/economic index.
Ah, but which one?
There are as many as 36 interest-rate figures published by the Federal Reserve Board; and many more are listed periodically by other government agencies. ARM-takers, financial experts say, should understand that the federal government has only two criteria which must be met by ARM-loan-issuing institutions: (1) Adjustable rate loans must be tied to an interest rate index, and (2) this index must be widely known and not under control of the institution using it.
Prominent indexes used today for ARM changes include: six-month or one-year Treasury bills; Federal Home Loan District Bank cost-of-funds; one-year or five-year US Treasury notes or bonds; and the FHA conventional mortgage rate.
Although there are pros and cons for use of each of these - as well as others not mentioned above - many analysts believe the least volatile is an index based on federal government securities. Other indexes, they point out, can be affected by economic area changes or by government regulation.