In its latest Weekly Mortgage Applications Survey, the Mortgage Bankers Association reports that the adjustable-rate portion of mortgage activity was 34.7 percent of total applications. Many first-time or young home buyers, with a short time horizon, are looking to the hybrid adjustable-rate-mortgage (ARM) market to lock-in low mortgage rates. Members looking to portfolio loans with shorter average lives than the 15- and 30-year mortgages that have recently found their way onto their balance sheets might want to consider holding 5/1 ARMs.

Currently, 5/1 ARMs are priced at 5 percent, with no points and an average life for the initial reset of 3.3 years (any balances remaining after the reset will be one-year ARMs). Funding these mortgages using a five-year Amortizing advance at 3.94 percent for 80 percent of the funding, and a one-month advance for the balance, results in an initial spread of 159 basis points. The five-year amortizer offers protection against moderate increases in rates, and after two years, 62 percent of the original balance remains.

The Strategy
Our model shows the results in seven rate environments for years one through five (until the initial reset). This strategy gives the member some interest-rate-risk protection should rates move in either direction, producing positive results in all scenarios modeled.

In scenarios in which rates remain flat or rise by 100 basis points, the spread widens to 193 basis points and 169 basis points, respectively. The spread would be about 93 basis points if rates were to rise 300 basis points over the next year, and then remain unchanged.

Please contact our financial strategists at strategies@fhlbboston.com or 1-800-357-3452 to examine other funding alternatives for this or other loans and investments. When considering any strategy, you should always consider your institution's overall balance sheet sensitivity position.