Option ARMs To Wreak More Havoc

Lately the housing market is looking a lot better -- at least compared to what it looked like last winter. But option ARMs (adjustable-rate mortgages) may again soon be flexing their muscles and deliver a fresh sucker-punch to the mortgage market. (Sorry, I couldn't resist the terrible pun-induced metaphor.) A new set of ARMs are beginning to reset, and with them a new wave of foreclosures is likely to follow.

These ARMs provide borrowers with the opportunity make very low payments at first, often just interest, but then ramp those payments up significantly when they adjust or "reset." They were one of the major causes of the mortgage market's problems.

Reuters reports:

"Payment option ARMs are about to explode," Iowa Attorney General Tom Miller said after a Thursday meeting with members of President Barack Obama's administration to discuss ways to combat mortgage scams.

In Arizona, 128,000 of those mortgages will reset over the the next year and many have started to adjust this month, the state's attorney general, Terry Goddard, told Reuters after the meeting.

In the past I wrote about how dangerous ARMs can be, and I really should have specifically highlighted option ARMs at that time, because they're the really messy ones. With these products payments are very low at first, only to increase substantially once the reset occurs. The new payments are sometimes even several times as great as the old ones.

It will be interesting to see how this new wave of underwater homeowners affects the Obama administration's mortgage modification program. I've noted that the program has found modifying as many mortgages as it would like to be challenging. With a new flood of applicants, I doubt it will get any easier for banks and servicers to handle the workload.