Consider an adjustable rate mortgage (ARM) loan for 650,000. The interest rate is indexed to the 10-year Treasury yield. The loan has a margin 2.75%, first-year teaser rate of 2.75%, an annual rate cap of 2% and a lifetime rate cap of 5%. The loan requires monthly payments for 25 years. Assume that 10-year Treasury yields are as shown blow.

10-yr treasury yield at first anniversary date (end of year 1) 3.5%

10-yr treasury yield at the end of second year 4.25%

a) What is the debt service payment amount during the first year of the loan, and the loan balance at the end of this first year?

b) What is the contract rate on the loan for the second year?

c) What is the debt service payment during the second year and the loan balance at the end of the year?

d) What are the contract rate, monthly payment and end-of-year loan balance for year 3?

Answer rating: 100% (QA)

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