Interest Rates

As promised, we will talk about interest rates today. And, it is appropriate, as the federal reserve just made a change to one of the interest rates that it controls, which in turn influences the rate your bank charges you.

I did however have a hard time writing this. I started off a few times now, and what i realized is that Interest rates aren’t all that interesting, so ill try to do some quick high points (or medium points as the case may be) and we will move on.

Interest rates are implicit in most financial transactions that you do – so they are very important, just the mechanics may not be that exciting.

It is supply and demand that determine the rates (save for some federal influences). And basically, its the price we pay for money. You may say, oh dear i think pencil clamps has gone mad, but if i may hold you off for a minute, its true. The interest on your home loan or your car loan is the price you pay for “renting” your money from the bank, and its the price that they are willing to charge you for it, instead of someone else, based on your risk. And when you put your money in a savings account, the bank pays you interest as the amount they pay you to lend them money (they are not just keeping it safe for you, but much more).

Types of Mortgage Loans

Types of Mortgage Loans.

There has been a lot of talk in the popular media about mortgages and subprime mortgages. But what about all the different kinds of mortgages out there. The best way to avoid the problem we have here is with a little common sense and a little information about what different financial products mean. I have seen several stories recently where an “innocent house owner” all of a sudden has a loan on their house that they “didn’t understand”. I asked myself, why would that be, and the answer that came back was there are a lot of details to keep track of, and not everyone spends time learning about all the different types. Just like i don’t spend much time learning about the different types of ballet slippers (i lump them all into one group – ballet slippers), which I am sure someone could set me straight on this.

Now back to the topic at hand.

We will start with my favorite type of loan the 2/28 Adjustable Rate Mortgage.

Why is it my favorite, well, there are several reasons… but none of them are financial. And here i would like to make my first point (one financial instrument may be one persons favorite, but it doesn’t mean that it will be your favorite). For instance, the 2/28 loan may be great for the bank or for your neighbor who has a special situation.

So, what kind of mortgage should I get then you ask. Well, let’s first define a few of the main types. And then, I’ll assume that you have had your fill for today. First type is fixed, and like the name, the interest rate and consequently the payment you make over the life stays the same.

Second type is adjustable. This one, the interest rate adjusts with an index, so if the index goes up, your loan payment goes up. Now let’s look at a third type, the Interest Only, these have the lowest initial payment, but as a result, you do not pay any principal (amount you borrow does not decrease), for a period of time. Like I said at the beginning, maybe you know these concepts, but its clear that lots of people do not based on the surprises we hear about in the media.

Next time we will look at interest rates, and why they go up and down.