For those of you who may be thinking that an Option Adjustable Rate Mortgage is a smart idea, go bang your head against the wall 3 times and then come back. Studies show that these loans have a level of foreclosure higher than others and with the interest rate spread today being so narrow, there is very little benefit by using one outside of the first few months.

Option ARMs accounted for 12.3% of mortgage originations through May, up from 8.4% in all of 2005, according to a new study by LoanPerformance, a unit of First American Corp. The study looked at loans sold to investors that buy mortgage-backed securities. (The data exclude loans sold to Fannie Mae and Freddie Mac, two large mortgage-finance companies whose share of the overall market has been shrinking.)
The loans’ popularity comes as rising interest rates are making them less attractive. Many lenders have boosted their introductory rates to 2% or more. Once the introductory period ends, the true interest rate on the loan can be more than 7%, according to HSH Associates, financial publishers in Pompton Plains, N.J. That is well above the current 6.64% average rate on 30-year fixed-rate mortgages, according to HSH.
“It’s hard to know why anybody would want [an option ARM] in the current rate environment,” says Keith Gumbinger, a mortgage analyst with HSH Associates. Yet borrowers seeking to lower their monthly payments have few other choices. Given the narrow difference between short- and long-term interest rates, Mr. Gumbinger says, “there are very few products that…provide payment relief.” via WSJ.com

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