With interest rates up this year, adjustable-rate mortgages are making a comeback.
The Mortgage Bankers Association says adjustable-rate loans now account for 20% of mortgage applications, double the percentage in April.
The shift favors thrifts, which specialize in adjustables and can hold the loans in their portfolios. It leaves mortgage banks, which depend on the secondary market and cannot count on Fannie Mae and Freddie Mac to be as active in buying adjustable-rate loans, looking to Wall Street for help.
"A lot of mortgage bankers are trying to find investors for their adjustable-rate production," said Peter L. Struck, first vice president and manager of the treasury division for Washington Mutual in Seattle. But for adjustable-rate mortgages, "the secondary market is less developed."
The rise in adjustable lending has closely tracked the rise in mortgage rates. According to Freddie Mac, the average 30-year fixed rate, at just over 7.5%, is a full percentage point higher than it was last October. Adjustable-rate loans, which remain just under 6%, have become more appealing, especially those that let the borrower lock in the lower rate for the initial five or 10 years.
At Cendant Mortgage in Mount Laurel, N.J., the flow of adjustable-rates loans "went from a drinking straw to a pipeline" in three months this spring, said Peter A. Thomas, vice president for secondary marketing. "We are cranking," he said. "June and July adjustable-rate volumes are substantially bigger than we have seen in over 20 months."
At PNC Mortgage, 15% to 18% of originations in July were adjustable, up from 11% for the first half of 1999, said William J. Denton, vice president for secondary marketing.
Speakers at the Mortgage Bankers Association's western secondary market conference last week noted that adjustable mortgages don't provide as attractive a variety of securities products for investors as fixed-rate mortgages offer. One popular fixed-rate security, for example is the collateralized mortgage obligation.
One mortgage trader said that the movement toward adjustable-rate mortgages has been the biggest change over the last few months, with the most substantial growth coming from Ginnie Mae adjustable-rate mortgages. His firm-one of the mortgage giants on Wall Street-is "a big buyer" of adjustable-rate mortgages now, he said, adding that he was "starting to see some big retail demand."
Another trader said that there already is demand for so-called 5-1 adjustable rate mortgages-mortgages that have a fixed rate for five years, then convert to a one-year adjustable.
But seven- and 10-year adjustable-rate mortgages are "more of a difficult trade because of prepayment problems" inherent in adjustables.
Borrowers typically take out an adjustable-rate loan knowing they will move or refinance before the term of the loan is complete, he said. "The psychology of the investor right now is to stay in the shorter part of the market," said Mr. Denton of PNC Mortgage.
David Lereah, chief economist for the Mortgage Bankers Association, said the rise in adjustable rate loans has probably already peaked.
"There is no way households will go full throttle into adjustable rates right now," Mr. Lereah said.
"They can still lock into a fixed and get less than 8%." He said 20% is "probably a ceiling for ARM production-unless interest rates go up further."