As Interest Rates Continue To Rise, Is It Better To Choose a Variable or Fixed-Rate Mortgage?
As a general rule, most homebuyers are advised to get fixed-rate mortgages because of their predictability. With fixed-rate mortgages, the interest rate is locked in for the duration of the loan, meaning you can plug the same payment into your budget every month.
That’s different from a variable mortgage, also known as an adjustable-rate mortgage (ARM), in which the interest rate will change over time — and change your monthly payment as well. These are considered riskier because your rate could go much higher after several years.
However, there are times when you might be better off choosing an ARM. As a blog on the Charles Schwab website pointed out, adjustable-rate mortgages usually have an initial fixed rate for a certain period of time, such as five to 10 years. The initial rates are typically lower than the average so that lenders can lure more borrowers. An ARM might be a good option if you get a low introductory rate and plan to pay off the loan or sell the home before the interest rate changes.
An ARM might also be a good option when interest rates are moving higher (like now). Again, this is because you start out with a lower-than-average initial rate.
When overall rates rise, ARMs have two potential benefits. First, your initial rate is lower than what you might otherwise get with a fixed-rate mortgage. Secondly, your rate will go down when overall interest rates go down, which typically happens following periods of aggressive interest-rate hikes.
In contrast, with a fixed-rate mortgage you are stuck with the same high rate throughout the life of the loan unless you refinance.
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Demand for adjustable-rate mortgages has risen in recent months as interest rates for fixed-rate mortgages hit their highest level in a decade. The average contract rate on a 30-year fixed-rate mortgage climbed by 7 basis points to 6.01% for the week ending Sept. 9, Reuters reported, citing data from the Mortgage Bankers Association. That’s the highest rate since the end of the financial crisis and Great Recession.
You can expect interest and mortgage rates to push even higher in coming months. As Reuters noted, continued high inflation likely means the Federal Reserve will approve a third straight 75-basis point interest rate hike at its next policy meeting, scheduled for Sept. 21, 2022. Such a hike will likely make adjustable-rate mortgages even more alluring to new homebuyers.
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