Freddie Mac Joins the Fray with New Option ARM Products

Freddie Mac wants to start purchasing option-adjusted ARMs later this year as it tries to catch up with the market and the Wall Street conduits. These adjustable-rate mortgages offer borrowers several payment options, including interest-only payments, to address different and changing needs. Option ARMs are especially popular on the East and West Coasts and lenders are originating tens of billions of these loans each month, Freddie Mac vice president James Cotton said. "The Street is telling us that's where the ARM market is going," he added.

Fannie Mae has just introduced a 40-year mortgage product, which also helps borrowers to lower their monthly payments and stretch their purchasing power.

Freddie is looking at a 40-year product. But option ARMs are a "higher priority," Mr. Cotton said. The secondary market agency plans to start purchasing option ARMs in bulk by the end of the year. And it wants to start buying loans on a flow basis in 2006.

The Freddie option ARM will allow borrowers to chose from four payment options each time they write a monthly mortgage check.

The first option allows borrowers to make a minimum payment, which creates negative amortization because the payment does not cover principal and interest. A second option is an interest-only payment, while the third and fourth options allow borrowers to chose between a 15-year or 30-year fully amortizing payment.

The VP for single-family marketing noted that Freddie is considering other options that borrowers can purchase, but he did not provide any further details. Some option ARMs allow borrowers to skip one or two monthly payments a year.

Mr. Cotton stressed that is not a new product. Lenders in California started offering option ARMs in the 1980s and it spread to the East Coast in the 1990s.

"We bought of a lot this product in the early '90s. We have experience with it," he said.

Meanwhile, Fannie has expanded its product line to include 40-year fixed-rated mortgages and hybrid ARMs. And the company began approving 40-year mortgages through its automated underwriting system, Desktop Underwriter, last week.

"By increasing the standard loan term from 30 to 40 years, monthly payments are lower, thus making them more affordable, which increases borrowers' purchasing power," Fannie says in a letter to lenders.

In addition to a standard fixed-rate mortgage, Fannie is offering 3/1, 5/1, 7/1 and 10/1 hybrid ARMs that amortize over 40 years.

Fannie-approved lenders also can offer borrowers a 30-year term (balloon) loan with a 40-year amortization schedule.

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