Situation looking bleak for many adjustable rate mortgage holders

From today’s San Francisco Chronicle:

The number of homes entering the foreclosure process hit a record high in the second quarter, but things are going to get even worse over the next 12 months, when millions of borrowers see the interest rate on their adjustable-rate mortgages reset for the first time. ARMs are tied to short-term interest rates but are typically fixed for a few years before they begin adjusting. Because short-term rates have increased dramatically, many homeowners will face payment shock when their rates adjust. In a meeting with mortgage servicers Wednesday, Treasury Secretary Henry Paulson said, “We’ve been experiencing market turbulence, and as I’ve said for a while, this will take some time to work its way out.” …

About $1.1 trillion of adjustable-rate mortgages were scheduled to reset for the first time in 2007 and 2008, according to First American LoanPerformance. These represent about 10 percent of all mortgages outstanding. Virtually all these ARMs will reset at higher rates – in many cases much higher – resulting in bigger payments for homeowners. Reset activity is likely to peak in the fourth quarter of this year and the first quarter of next year… Well over half of the resetting loans were made to subprime borrowers with low credit scores. “The subprime resets will create more difficulty for households and the economy because many subprimes qualified based on a low teaser rate,” not on the post-adjustment rate, says Steve Cochrane, senior managing director of Economy.com. With tighter lending standards and no investor appetite for risky mortgages, refinancing “might not be possible,” Cochrane says. And with home prices lower in most areas, borrowers who put little or nothing down now owe more than their homes are worth, so selling the home to pay off the loan is no longer an option. The brunt of the reset problem has yet to hit.