Transcript Slide 1
Adjustable Rate Mortgages Definition – Characteristics: Riskiness Relative to Fixed-rate Mortgages Index Rate Rate Resetting Restrictions Why Do Borrowers Select ARMS??? Advantages: Disadvantages: David M. Harrison, Ph.D. Real Estate Finance Texas Tech University ARM Example Suppose you are considering an ARM with the following characteristics: Mortgage Amount: Index: Margin: Annual Cap: Lifetime Cap: Discount Points: Loan Term: David M. Harrison, Ph.D. Real Estate Finance Texas Tech University $200,000 1-year Treasury bill yield 2.50% 2.00% 6.00% 2.00 30 Years ARM Example, cont. If the Treasury Bill yield is currently 6%, what is the monthly payment for the first year? If the index moves to 7.50% at the end of the first year, what is the monthly payment for year 2? If the loan is paid off at the end of year 2, what is the effective cost (yield)? David M. Harrison, Ph.D. Real Estate Finance Texas Tech University Price-level Adjusted Mortgage (PLAM) Definition – Role of Inflation Complications: Potential Problem: David M. Harrison, Ph.D. Real Estate Finance Texas Tech University PLAM Example Consider a PLAM with the following features: Mortgage Amount: Mortgage Term: Current Real Rate: Inflation for years 1-3: $90,000 30 years 5% 2%, 3%, and 5% Note: Mortgage Payments are adjusted annually What are the monthly payments for each of the first 3 years? David M. Harrison, Ph.D. Real Estate Finance Texas Tech University PLAM Example, cont. What is the effective cost if the loan is repaid at the end of year 3? What is the effective cost if the loan is repaid at the end of year 3 and the lender charges 2 discount points up front? David M. Harrison, Ph.D. Real Estate Finance Texas Tech University Shared-Appreciation Mortgage (SAM) Definition Contingent Interest: NAV = Problems: David M. Harrison, Ph.D. Real Estate Finance Texas Tech University SAM Example Determine the share of appreciation the lender should receive on the following SAM loan: Loan-to-value ratio: Market rate: Rate on loan: Lender’s tax bracket: David M. Harrison, Ph.D. Real Estate Finance Texas Tech University 90% 12% 10% 30% Graduated Payment Mortgage (GPM) Definition Motivation Concerns: David M. Harrison, Ph.D. Real Estate Finance Texas Tech University GPM Example Given the following data, determine the first monthly payment for a graduated payment mortgage: David M. Harrison, Ph.D. Real Estate Finance Texas Tech University Market Rate = 10% Real Rate = 3% Mortgage Amount = $200,000 Maturity = 30 years Payment growth rate = 7.5% for 5 years Reverse Annuity Mortgage (RAM) Definition – Fixed Term vs. Life of Borrower Forced Sale? Income Stream vs. Insurance Purchase David M. Harrison, Ph.D. Real Estate Finance Texas Tech University Implications RAM Example Suppose a widow wishes to take out a reverse annuity mortgage on her house. What annual payment can she get if she decides on a $200,000 debt at the end of 10 years and the current rate is 7 percent? David M. Harrison, Ph.D. Real Estate Finance Texas Tech University Balloon Notes Definition – Satisfying the Balloon Payment Usage David M. Harrison, Ph.D. Real Estate Finance Texas Tech University Balloon Note Example Suppose you wish to purchase a $250,000 house, have sufficient resources to make a 20% down payment, but have short-term cash flow concerns. Your lender, recognizing your long-term creditworthiness offers you the option of a 15-year balloon loan, in which the payments will be amortized over 30years. Assuming the market rate is 7%, what is your monthly payment on this balloon loan, and what will be your final, balloon payment at maturity? David M. Harrison, Ph.D. Real Estate Finance Texas Tech University Pledged-Account Mortgage Suppose upon graduating from college you receive a sizable gift/signing bonus of $60,000. Being a TTU grad, you also land a lucrative entry-level position, with the expectation of rapid advancement through the organization. In order to both put your money to work and to maximize the home you can purchase, you decide to undertake a pledged-account (or FLIP) mortgage. The home you want to buy costs $300,000. You plan to make a 10% down payment, deposit sufficient cash in a pledged account to lower your monthly mortgage payments in the early years of the (30-yr.) loan, and use the remainder to buy something nice (an engagement ring for your college sweetheart/a new sports car). If the underlying mortgage rate is 8%, the deposit rate is 5%, and you want your payments to increase by 4% per year for the next five years, set up a PAM/FLIP amortization schedule. How much cash can you retain to spend on something “nice”? David M. Harrison, Ph.D. Real Estate Finance Texas Tech University PAM/FLIP Example Year Beginning Deposit Balance 1 2 3 4 5 6-30 David M. Harrison, Ph.D. Real Estate Finance Texas Tech University Reduction in Principal Buyer’s Interest Ending Payment Total Balance