Interest Only ARMs
 

How does an Interest Only Arm work?

Every adjustable rate mortgage starts with a margin, which will never change for the life of the loan.  This margin is determined by the Lender when locking in the interest rate.  This margin is added to an Index to determine your interest rate when your ARM adjusts, whether that is annually, 3 years, 5 years, etc.

There are 5 main Indexes we will describe below which are all extremely stable indexes, yet some are tied to different products.

MTA (Monthly Treasury Index)- This index is one of the most stable indexes available because it is calculated by a 12 month rolling average which in turn causes very little movement of the index.  Loans with a MTA Index so rarely have any sizeable fluctuations in rate that a lot of these programs are not sold by the Lender and usually serviced there too, which means you make the payment to the SAME company for as long as you have the loan.

COSI (Cost of Savings Index): One of the largest Savings and Loans in the 11th District (CA, AZ, NV) offers a mortgage program tied to its own "cost of savings." Simply put, this Lender borrows money from consumers in the form of deposits, i.e. C/D's, checking and savings accounts, and then lends the money out as home mortgages. Then they place a fixed "Margin" on top of their own Index.  Historically, the COSI has moved up and down much less rapidly than indexes based on the PRIME Rate, the Federal Reserve discount rate, or Treasury bill rates. This is because COSI is composed primarily of fixed-rate deposits of varying maturities (i.e. C/D's.)  Since rates on these deposits are not affected by changes in market interest rates until the deposits mature, the average interest rate on deposits in a particular month reflects, to a significant degree, interest rates that were in effect in previous months.

CODI (Cost of Deposits Index): One of the largest Savings and Loans in the 11th District (CA, AZ, NV) offers a mortgage program tied to its own "3-month certificates of deposits." Simply put, this huge Lender borrows money from consumers in the form of deposits, i.e. C/D's.  Then they create their own Index, add a fixed "Margin" on top of it, then lend the money out as home mortgages. The CODI is the average of the most recently published monthly yields on 3-month certificates of deposit (secondary market) for the twelve most recent calendar months as published by the Federal Reserve Board ("Index"). 3-month certificates of deposit and responds a little more quickly to the changes in the marketplace than either the COFI or COSI.  It, like COFI and COSI, is currently moving downward, but it's averaging about .50 bps lower.

COFI (Cost of Funds Index): Most COFI mortgages are never sold.   This says a lot about the "confidence" that the Lender has in the Index; as this Index moves so slowly, and has so many built-in safety caps, the COFI Lender isn't afraid that the Index will go so high that you could potentially not be able to make your future monthly payments, and they would have to foreclose on your house. The funds used as a basis for the calculation of the 11th District Cost of Funds index are the liabilities at the District savings institutions: money on deposit at the institutions, money borrowed from a Federal Home Loan Bank (known as advances) and all other money borrowed. The interest paid on these types of funds is the cost of these funds.

LIBOR (London Interbrain Offered Rate): The interest rate offered by a specific group of London banks for U.S. dollar deposits of a stated maturity. LIBOR is used as a base index for setting rates of some adjustable rate financial instruments, including Adjustable Rate Mortgages (ARMs). LIBOR-indexed ARMs offer borrowers aggressive initial rates (lower than many other ARMs) and has proved to be competitive with such popular ARM indexes as the 11th District Cost of Funds, the 6-Month Treasury bill, and the 6-Month Certificate of Deposit. With the LIBOR ARMs borrowers are generally protected from wide fluctuations in interest rates by periodic and lifetime interest rate caps.  LIBOR ARMs usually do not have negative amortization.