Multiple Choice
Which type of life insurance policy typically provides the greatest amount of protection for the lowest initial premium?
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7. Receivables and Investments
Introduction to Investments in Securities
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Which of the following best explains why an adjustable-rate mortgage (ARM) is considered riskier than a fixed-rate mortgage?
A
An ARM always has a higher initial interest rate than a fixed-rate mortgage.
B
ARMs do not allow borrowers to refinance their loans.
C
The interest rate on an ARM can increase over time, leading to higher monthly payments.
D
Fixed-rate mortgages require larger down payments than ARMs.
Verified step by step guidance1
Understand the key difference between an adjustable-rate mortgage (ARM) and a fixed-rate mortgage. An ARM has an interest rate that can change periodically based on market conditions, while a fixed-rate mortgage has a constant interest rate throughout the loan term.
Analyze the risk associated with an ARM. Since the interest rate can increase over time, the borrower's monthly payments may also increase, potentially making the loan more expensive and harder to manage.
Compare this to a fixed-rate mortgage, where the monthly payments remain stable, providing predictability and less financial uncertainty for the borrower.
Evaluate the statement that ARMs do not allow borrowers to refinance their loans. This is incorrect because borrowers can typically refinance both ARMs and fixed-rate mortgages, depending on their financial situation and market conditions.
Conclude that the primary reason an ARM is considered riskier than a fixed-rate mortgage is the potential for the interest rate to increase over time, leading to higher monthly payments and greater financial strain for the borrower.
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