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FRM Part I · FRM Exam Part I · Mortgages and Mortgage-Backed Securities

A lender offers a 5/1 hybrid adjustable-rate mortgage (ARM). Which description of its rate structure is correct?

A 5/1 hybrid ARM has a fixed rate for the first five years, then resets once a year to a reference index plus a lender margin, typically limited by periodic and lifetime caps. The first number is the fixed period, the second is the reset frequency.

  1. AThe rate is fixed for the first five years and then resets annually based on an index plus a margin, usually subject to capsCorrect
  2. BThe rate resets every five years and is fixed for one year after each reset
  3. CThe rate is fixed for one year and then resets every five years
  4. DThe rate is fixed for the whole term but the balance is recalculated each year

Explanation

In a 5/1 hybrid ARM, the first number is the initial fixed period in years and the second is the reset frequency afterward. After year five the rate equals an index plus a margin, within periodic and lifetime caps. The other options reverse or distort the structure.

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