Borrowers bid ’farewell to ARMs’

The credit crunch came home to average borrowers this week as rates for adjustable mortgages posted their biggest increase on record and are for the first time higher than the rates on conventional 30-year loans, bank lenders reported yesterday.

Borrowers seeking jumbo and adjustable mortgages — both popular in the Washington area — are now paying from three-quarters to one percentage point more on their loans than they would have just two months ago, with the average rate on a jumbo loan of more than $417,000 now hovering over 7.2 percent compared with the 6.1 percent rate on conventional 30-year loans.

The initial rates on hybrid adjustable mortgages such as 5/1-year interest-only loans — the choice of many home buyers in Washington — can range anywhere from one-tenth to nearly one percent above a fixed-rate loan, according to Bankrate.com. That makes them considerably less attractive than the conventional loans that were spurned by most borrowers only a few months ago.

The sudden jump in mortgage rates is the result of the continuing extreme difficulty of raising funds for nonconventional mortgages in the credit markets, analysts say. More than 100 mortgage brokers have gone bankrupt and even some of the biggest such as Countrywide are barely surviving as they have been unable to raise funds for mortgages in the short-term credit markets all month.

Banks that are still doing business in unconventional mortgages have stiffened their lending terms considerably, with some no longer offering no-down-payment or no-documentation loans that were typically used by first-time home buyers and investors during the housing boom.

Conventional 30-year loans, by contrast, are plentiful, because they can readily be funded and sold to Fannie Mae and Freddie Mac, the government-sponsored mortgage companies. But the Mortgage Bankers Association yesterday reported little increase in takers among borrowers seeking to buy or refinance homes.

It’s “a sign of the mortgage credit crunch, even to high-quality borrowers,” said Alec Crawford, mortgage securities strategist at RBS Greenwich Capital, calling the dramatic change a “farewell to ARMs.”

While much of the turmoil in credit markets this year has been confined to Wall Street and subprime borrowers, ordinary consumers are no longer immune from the turbulence, he said. “We have seen significant dislocations in the primary mortgage market over the past couple of weeks.”

The surge in rates has caused a collapse in mortgage applications for home purchases and refinancings at banks surveyed in the past two weeks by the mortgage association, which yesterday reported an unprecedented jump in the average rate on one-year adjustable mortgages to 6.51 percent last week from 5.84 percent the week before.

Because of the much higher rates, applications for adjustable-rate loans slumped 23 percent to 15 percent of all applications, the lowest since 2003, the mortgage group said.

Mortgage analysts say the bad news is far from over. Major dislocations continue in the credit markets that finance home loans, including a near freeze on purchases of commercial paper from mortgage companies that specialize in nonconventional loans — which has been the main reason such mortgages are so much harder to get.

“Headlines from financial markets will get uglier,” said Kornelius Purps, a fixed-income strategist at Unicredit Markets.

Yesterday, the credit markets were roiled by news that a major London hedge fund was selling assets to avert collapse because it can no longer access funding in the commercial paper market.

Cheyne Capital Management Ltd., whose Queen’s Walk mortgage bond fund reported losses in June, said that it has been selling investments and has enough cash to repay commercial paper due through November. Standard & Poor’s Corp. slashed the company’s debt rating Tuesday.

Companies that depend on commercial paper — corporate debt due in 270 days or less — are facing funding shortages because buyers, including most money market funds, have grown wary of further losses on mortgage-backed securities. The average yield on the highest-rated asset-backed commercial paper with one-day maturity — a typical debt offering by a mortgage company — has risen 73 basis points this month to 6.04 percent as investors exited the market and dived into safe-haven Treasury bills.

Further turmoil may lie ahead. The Times of London reported that Boston-based State Street Corp., one of the largest U.S. money managers, has major exposure to losses in the asset-backed commercial paper market. State Street insists that the credit quality on the assets in its conduit program is “very good.”