ARMS Set to Create Trouble


In February, reported on a possible housing bubble bust in the United States due to the resetting of adjustable rate mortgages (arms) and interest-only loans. Now, headlines from across much of the country confirm a housing slowdown, and it has the potential to be a big one.

A May 28 PalmBeachPost

.com article, “Easy-to-get loans cause thousands to lose homes,” blamed easy lending practices by brokers and option arms for the recent spike in foreclosures across Palm Beach, Martin and St. Lucie counties in Florida. More than $106 million in home loans defaulted during the first quarter of this year, up from only $68 million in the same period last year. That translates into approximately 2,100 families that could lose their homes in just those three counties.

Foreclosures are also mounting on the Pacific Coast, as outlined by the San Diego Union-Tribune’s May 15 article: Notices of default jumped by 60 percent during the first three months of this year in the San Diego region—the largest increase since 1992. Neighboring Riverside County saw foreclosures rise 64 percent last year. California statewide foreclosures jumped 29 percent.

In fact, according to the U.S. Foreclosure Market Report, nationwide, over 320,000 properties entered some stage of foreclosure during the first quarter of 2006—a 72 percent jump over last year.

Adjustable rate mortgages typically start a borrower at one rate but can adjust up or down after a set period depending on prevailing interest rates. Interest-only loans allow borrowers to lower their monthly bills by only paying the interest on the loan during the initial years. “In both cases, the terms of the loans change. That can spell disaster, particularly in a market facing both declining real estate values and rising interest rates” (op. cit.).

Senior market strategist Michael Pento of Delta Global Advisors agrees, saying that much of the rise in mortgage defaults is a result of the 22 percent of the $8.7 trillion in mortgages held by Americans that are resetting this year. That means a “typical three-year arm will go from 3.6 percent to 5.6 percent. On a $500,000 mortgage, the monthly payment would increase by $800 …” (, May 26).

But some experts say the worst is yet to come.

“We know the whale is coming, we just don’t know how big the whale is,” said one spokesman for the Center for Responsible Lending, a Washington nonprofit group (, op. cit.).

“Millions of households across the country are at risk of ‘payment shock’ when mortgage payments adjust upward over the next two years,” says Nicholas Retsinas of Harvard’s Center for Joint Housing Studies (San Diego Union-Tribune, op. cit.).

The signs of a housing bubble bust are all around. The rise in default notices and foreclosures is definitely an ominous warning. If the increase in foreclosures leads to a greater supply of houses on the market and therefore lower home prices, it could put a damper on borrowing against home equity lines of credit, consumer spending and home construction.

For the U.S. economy—in which about 40 percent of all new American jobs created in the private sector over the last few years were related to the housing market—this is definitely not a good development.