LIBOR Now Likely to Climb

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Q :I have read in this column about monthly LIBOR mortgages and was wondering if you still recommend them now that interest rates are on the rise.

A: LIBOR stands for London Interbank Offering Rate, and it is the rate banks in Europe charge each other for short-term loans.

LIBOR-based mortgages have been a very attractive option for the past three or four years. After the September 11 attacks, Federal Reserve Chairman Alan Greenspan sought to minimize the nation's economic damage by lowering short-term interest rates.

The LIBOR historically has followed U.S. short-term rates, which are controlled largely by the Fed. As the Fed lowered rates, the LIBOR followed.

Several types of adjustable-rate mortgages (ARMs) are tied to the LIBOR. As Fed rates dipped, the rates on LIBOR-based loans were falling. In fact, mortgage programs tied to the LIBOR carried rates as low as 2.50 percent in 2003 and 2004.

Now that the Fed has raised U.S. short-term rates several times, the LIBOR, predictably, has risen also. The same program that was boasting a rate of 2.50 percent in 2003 is now, perhaps, hovering around 4.50 percent.

It is clear that LIBOR ARMs are not as attractive as they once were.

While short-term rates have risen considerably in response to the Fed's actions, long-term rates have risen only moderately, making fixed-rate loans more attractive.

It's important to point out that myriad ARMs are available in the marketplace. …