Definition
An Adjustable-Rate Mortgage (ARM) is a home loan in which the interest rate is not fixed but adjusts periodically according to market interest rates or a financial index, causing the borrower’s monthly payment to change over time.
Why It Matters
Adjustable-rate mortgages often begin with lower introductory interest rates than fixed-rate loans, making them attractive to borrowers seeking lower initial payments. However, rising market interest rates can increase future payments, creating financial risk for households and influencing housing market stability.
Example
A borrower takes out a 30-year mortgage with a 3% introductory rate fixed for five years. After that period, the rate adjusts annually based on market conditions. If rates rise to 5%, the borrower’s monthly payment increases accordingly.