What do the numbers mean in an adjustable-rate mortgage?

The first number indicates how long your fixed-rate period will last. The second number indicates how often the rate will change. An ARM, short for adjustable rate mortgage, is a mortgage where the interest rate is not fixed for the life of the loan. The rate is set for a specific period at first, called the “initial rate period”, but can then change depending on the movements of an interest rate index.

ARMs are compared to fixed-rate mortgages where the quoted interest rate is maintained throughout the life of the mortgage. In the case of an adjustable rate mortgage, the index is a reference interest rate that reflects general market conditions and the margin is a number set by your lender when you apply for your loan. It's true that you can refinance your adjustable-rate mortgage and convert it to a fixed-rate mortgage when it's time to adjust the rate. This is a bit technical, but basically the rate curve is about the difference between fixed-rate and adjustable rate mortgages.

With an adjustable rate mortgage, the rate stays the same, usually for the first year or a few years, and then begins to adjust periodically. Assuming market conditions with a decent differential between fixed and adjustable rates, it may make sense to get an adjustable rate mortgage, especially if you know you're planning to be out of the house by the time the rate adjusts. To understand the differences between adjustable-rate and fixed-rate mortgages, it is useful to analyze the advantages and disadvantages of ARMs. Buying an adjustable rate mortgage requires more than just looking at the initial interest rate.

The margin is the number of percentage points that the mortgage lender adds to the index to set the interest rate on an adjustable rate mortgage (ARM) after the end of the initial rate period. Changes in the index, together with the margin on your loan, determine the changes in the interest rate on an adjustable rate home loan. Adjustable-rate mortgages are gaining popularity because their relatively low initial rates may give borrowers more homebuying power amid rising home prices today. If you're planning to relocate or pay off your mortgage in 10 years or less, it's worth considering an adjustable rate mortgage, or ARM.

When looking for home loans, you'll need to decide between a fixed-rate or an adjustable rate mortgage.