Question

What are ARMs? What is the advantage of an ARM to a borrower? What are the disadvantages? What were teaser ARMs and how did they contribute to the financial crisis? What were liar loans? What were NINJA loans? Why did the credit rating agencies take so long to acknowledge the riskiness of those loans and to downgrade CDOs containing those loans?

Answer 1

Answer 1 Adjustable Rate Mortgages: these are also called Variable or floating rate mortgages. As the name suggest adjustable rate mortgages are the type of mortgages where the interest rates for the outstanding amount keep on changing over the period of loan. Such adjustments in the interest rate are made at the fixed period. Generally the variation in the rate is linked to the common index. Where such change in rate is based on the change in index, if index increases then rate increases and if index decreases then rate decreases. Further when the initial loan is granted at that time for some specific period a fixed rate of interest is made which starts fluctuating after that specific period of time.

Answer 2 Advantage of Adjustable Rate Mortgages:

· The very first advantage of Adjustable Rate Mortgage is that, these generally have lower interest rate in the initial period of loan which is less than the loans with fixed interest rates.

· There is possibility that the interest rates may decrease in future, which helps to repay the loan faster with more principal and less interest.

Answer 3 Disadvantage of Adjustable Rate Mortgages:

· Due to change in interest rates there is fluctuation in monthly payments to be made which makes it difficult make the budget and long term financial plans.

· There may be chances that the interest rate may increase over the period of time which will result in more costly loan.

Answer 4 What are Teaser Adjustable Rate Mortgages and how did they contribute to the financial crisis?

Teaser Adjustable Rate Mortgages are the Mortgages where a teaser rate is fixed for the initial period of time and then the rates are fluctuated at the fixed period of time thereafter.

They help to contribute to the financial crisis by enticing the people to take the loan on very Low initial rates which helps to increase the money flow in the economy and creating the demands for the goods and services in the economy. Due to these the economy cycle will start again and helps to reduce the financial crisis.

Answer 5 What are liar Loans?

These are the loans where there is very low or no documentations are required. In these loans lenders do not verify the income and other details are stated by the borrower and the same are taken at their word. Such loans are called as liar loans.

Answer 6 What are Ninja Loans?

NINJA Loans is an Abbreviated form of “No Income, No Job and no Asset Loans”. As the name suggests loan is granted to those borrowers who have little or no assets and the lender do not verify the ability of borrower to repay the loan. These are made available to the borrowers with low interest rates that increase over a period of time.