How do lenders typically adjust the interest rates on an Adjustable Rate Mortgage (ARM)?

Lenders typically adjust the interest rates on an Adjustable Rate Mortgage (ARM) based on an index. An ARM is designed to provide a lower initial interest rate that adjusts periodically based on changes in a specific benchmark index, such as the London Interbank Offered Rate (LIBOR) or the Constant Maturity Treasury (CMT) rate. This index reflects broader market interest rates and, as it fluctuates, so does the interest rate on the mortgage.

The adjustment is usually structured in a way that the rate increases or decreases in accordance with the changes in the index, along with a margin that the lender adds to determine the new interest rate. This method ensures that the interest rate remains in line with market conditions. In contrast, while borrower credit scores can influence the initial rate offered and fixed rates are consistent, they do not play a direct role in adjusting the variable rate of an ARM after it has been set. Additionally, general market trends may influence indices but are not the determining factor for rate adjustments themselves.