Many will immediately ask, what is LIBOR? LIBOR is the London Interbank Offered Rate.
Simply, it’s the interest rate that banks are prepared to pay to borrow money from each other. Every day, the group who sets the LIBOR rate gets from 18 banks how much interest they would pay to borrow money from another bank. They toss out the four highest and lowest rates, and divide up the remaining ten to get an average. That average is published as LIBOR.
The reason LIBOR is so important, many adjustable rate mortgage (ARM) are tied to it and if LIBOR rises, so do your mortgage payments.
The most important consideration with a ARM tied to LIBOR, the rate can rise and fall very quickly and by large amounts. Granted most ARMs have limits as to how much they can rise in a period of time, generally one year, it can breath-taking how quickly LIBOR can move and so too monthly payment.
Below is a chart for the 3 month LIBOR rate which many home mortgages are tied to. This is the actual LIBOR rate and remember, most home loans have margin. A margin is a percenatge above the LIBOR rate, normally 2 – 2.25%, which is a premium banks charge to have an ARM.
This leaves one final question when it comes to the indexes commonly used for ARMs: Why London?
Other indexes commonly used are generally based on the 11th District Cost of Funds Index, or COFI, and the 12-month moving Treasury average. I like COFI the best but the reasons will be explained in a future post.
If you are considering purchasing a home and using an adjustable interest rate mortgage, let me put my nearly 30 years experience to work for you and help you find the perfect loan in your purchase of a Napa Valley property, please contact me