Adjustable-rate mortgages can carry some risks, but as rates rise, more home buyers may consider them. ARMs typically have a lower initial interest rate than 30-year fixed-rate mortgages, but the rate will change after a defined duration. Borrowers then must pay the rate set when their lock period expires, which can be risky if rates are moving up at the time.

Even though interest rates currently remain at historical lows, recent increases have been a shock to some home buyers’ budgets. Rates have jumped by more than 90 basis points in just one month. Higher borrowing costs have coincided with higher home prices, too. The median list price for a home has reached $405,000, up 14% compared to a year ago, according to realtor.com®.

The 30-year fixed-rate mortgage, the most common loan option, averaged 4.67% last week, according to Freddie Mac. That is the highest average since late 2018.

On the other hand, the five-year ARM averaged 3.5% last week.

Borrowers considering an ARM need to weigh how they’d be able to handle mortgage rate increases after their fixed-rate term expires, typically after three, five, or seven years. An ARM typically comes with caps on the annual adjustment, but these can vary among lenders.

For example, lenders may cap the increase for the first adjustment at 2 percentage points. That would mean the new rate can’t be more than 2 percentage points higher than the initial rate, CNBC explains. A subsequent adjustment cap clause would tell the borrower how much the interest rate could increase in following adjustment periods. Borrowers should review all potential caps and risks fully with a lender before deciding which loan product to choose.

“I’d also be concerned if you do an ARM with a low down payment,” Stephen Rinaldi, president and founder of the mortgage broker firm Rinaldi Group, told CNBC. “If the market corrects for whatever reason and home values drop, you could be underwater on the house and unable to get out of the ARM.”

Rinaldi told CNBC that ARMs often are chosen for purchasers of high-priced homes because the amount saved with the initial rate could be thousands of dollars per year. But for mortgages under $200,000, the savings could be less, he says.

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Mortgage rates have been rising quickly over the past month. A year ago, the 30-year fixed-rate mortgage was 3.18%. Last week, it averaged 4.67%, according to Freddie Mac.

Mortgage rates surged more than 90 basis points in March alone. And 5% mortgage rates may be here sooner than many housing analysts had originally predicted.

Several leading housing economists recently told MarketWatch that 30-year fixed rates may hit 5% within the next month, while others believe that landmark will come later this year.

“Even if rates slow their recent pace of increase, they’re likely to hit 5% by mid-year unless something big changes in the outlook,” Danielle Hale, realtor.com®’s chief economist, told MarketWatch.

Jeff Ostrowski, an analyst at Bankrate, told MarketWatch he believes 5% rates will arrive even sooner—sometime this spring.

Lawrence Yun, chief economist of the National Association of REALTORS®, says he believes the higher mortgage rates will cool the market somewhat in the coming months. “At a 5% rate, home sales this year may even fall by 10%,” he says.

But Hale is optimistic that buyer demand will remain strong. “We have a large generation of younger households, more than 45 million of whom are in prime household formation and home buying years of 26 to 35,” she told MarketWatch. “And while the monthly costs of buying are higher, the monthly costs of renting are also up, more than 17% in the last year. … Rising rents and higher costs of home buying have younger households hoping to move, stuck between a rock and a hard place.”

And even as mortgage rates climb, Yun does not expect home prices to turn negative. “Home prices are on firmer ground, even if mortgage rates rise to 6%, since the rents are rising strongly,” he told MarketWatch.

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Home buyers this spring are facing a double whammy of rising home prices and mortgage rates. The 30-year fixed-rate mortgage rose to 4.72% this week, from 3.13% when compared to a year ago, Freddie Mac reports.

Over the last three months, mortgage rates have risen by 1.5 percentage points, the fastest three-month rise since May 1994. Also, during the first two months of 2022, home prices have climbed by more than 15% compared to a year ago, Nadia Evangelou, senior economist and director of forecasting at the National Association of REALTORS®, writes on the association’s blog.

But housing demand remains high, Evangelou says. A severe housing shortage due to underbuilding has occurred over the last decade. “Housing demand will remain strong due to favorable demographics and shifts in buyers’ preferences as teleworking remains in place,” Evangelou says.

As such, home prices are expected to rise 5.1% in 2022, according to NAR’s projections.

Buyers are weathering the higher mortgage rates for now. Mortgage rates still remain low by historical standards. A more typical historical average is 8%, according to NAR.

Freddie Mac reports the following national averages with mortgage rates for the week ending April 7:

• 30-year fixed-rate mortgages: averaged 4.72%, with an average 0.8 point, increasing from last week’s 4.67% average. A year ago, 30-year rates averaged 3.13%.
• 15-year fixed-rate mortgages: averaged 3.91%, with an average 0.8 point, increasing from last week’s 3.83% average. A year ago, 15-year rates averaged 2.42%.
• 5-year hybrid adjustable-rate mortgages: averaged 3.56%, with an average 0.3 point, rising from last week’s 3.50% average. Last year at this time, 5-year ARMs averaged 2.92%.

Freddie Mac reports points along with average commitment rates to better reflect the total upfront costs of obtaining a mortgage.

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Mortgage rates are quickly rising and home buyers are trying to snatch up low rates before further increases. Rate lock activity jumped in March as the average 30-year fixed-rate mortgage neared 5%, according to Black Knight’s March Originations Market Monitor.

“Despite seeing the fastest one-month rise in rates in nearly 13 years, we saw purchase lock volumes increase by 31% from February—likely as prospective buyers moved to lock in their loans before rates climbed any higher,” says Scott Happ, Black Knight secondary marketing technologies president.

The higher rates are chipping away at affordability. LendingTree offers the following example: A 30-year fixed-rate mortgage loan worth $300,000 would have cost a buyer about $1,283 a month with the average rate on Dec. 30, 2021, of 3.11%. But at a recent average rate of 4.67%, that monthly cost jumps to $1,551, an increase of $268 a month, $3,216 a year, and $96,480 over the lifeof the loan.

By the end of March, the 30-year fixed-rate mortgage rose 70 basis points to 4.79%, the highest level in more than three years, according to the Optimal Blue Mortgage Market’s index and its daily rate tracker.

As rates rose, the average loan increased by more than 23% to slightly under $361,000 in March compared to February, according to data from CoreLogic.

While rate locks are most commonly for 30 days, buyers can lock rates for 45 days or more. But buyers often must pay for a rate lock and will pay more for a longer hold.

Some buyers also are looking at buying down their interest rate by paying points to get a more attractive rate. Lenders may offer an option to pay a lump sum up front to lower the interest rate over the life of a loan. One discount point, in general, costs 1% of the total mortgage and could lower the interest rate by about 0.25%. Purchasing points could save tens of thousands or even hundreds of thousands of dollars over the life of a loan, lenders say, for buyers nervous about rising rates.

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Inflation is at a 40-year high, and the average consumer is spending $500 more a month on living expenses than a year ago. As such, home buyers may need to lower their budgets to keep pace.

House hunters would be smart to search for a home that is about $40,000 cheaper than they would have a year ago as a result of the rising costs, Gay Cororaton, research economist at the National Association of REALTORS®, writes on the association’s blog.

“The increased cost of spending on other items impacts the ability of the average consumer to have enough leftover income to purchase a home,” Cororaton writes.

Rising inflation, higher mortgage rates, and a tighter supply of housing available for sale are expected to soften housing demand this year. Lawrence Yun, NAR’s chief economist, has predicted home sales to decrease by 10% in 2022. Home prices, however, are expected to continue to increase about 5% due to the low inventory of homes for sale.

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The 30-year fixed-rate mortgage jumped to a 5% average this week, the first time it’s been that high since 2011. Since the beginning of the year, mortgage rates have jumped by 1.8 percentage points and added about $400 to the average monthly mortgage payment for a median-priced home, Nadia Evangelou, senior economist and director of forecasting at the National Association of REALTORS®, writes for the association’s blog.

Also, with inflation at a 40-year high, home buyers are finding they may need to adjust their budget to buy this spring. “As Americans contend with historically high inflation, the combination of rising mortgage rates, elevated home prices, and tight inventory are making the pursuit of homeownership the most expensive in a generation,” writes Sam Khater, Freddie Mac’s chief economist.

NAR predicts that rising borrowing costs will price out about 16 million households from the housing market this year. NAR has forecast home sales activity to drop about 10% in 2022.

Freddie Mac reports the following national averages with mortgage rates for the week ending April 14:

• 30-year fixed-rate mortgages: averaged 5%, with an average 0.8 point, rising from last week’s 4.72% average. A year ago, 30-year rates averaged 3.04%.
• 15-year fixed-rate mortgages: averaged 4.17%, with an average 0.9 point, rising from last week’s 3.91% average. A year ago, 15-year rates averaged 2.35%.
• 5-year hybrid adjustable-rate mortgages: averaged 3.69%, with an average 0.3 point, increasing from last week’s 3.56% average. A year ago, 5-year ARMs averaged 2.80%.

Freddie Mac reports average points along with commitment rates to better reflect the total upfront cost of obtaining the mortgage.

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