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Explain adjustable rate mortgage

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Assume that a lender offers a 30-year, $147,000 adjustable rate mortgage (ARM) with the following terms:
Initial interest rate = 7.5 percent
Index = one-year Treasuries
Payments reset each year
Margin = 2 percent
Interest rate cap = 1 percent annually; 3 percent lifetime
Discount points = 2 percent
Fully amortizing; however, negative amortization allowed if interest rate caps reached
Based on estimated forward rates, the index to which the ARM is tied is forecasted as follows: Beginning of year (BOY 2 = 7 percent;
(BOY) 3 = 8.5 percent; (BOY) 4 = 9.5 percent; (BOY) 5 = 11 percent.

Reference no: EM133233640

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