The fully index rate on a home loan is the interest rate consisting of the rate of the index plus the specified margin.
For example, if a loan currently has an interest of LIBOR + 1% and LIBOR is currently 1.10%, the fully indexed rate will be 2.10%.
Fully indexed rates are most common for adjustable rate mortgages or hybrid ARMs.
When the initial period of fixed rates expire on a hybrid mortgage, the loan will most likely convert to a regular ARM with interest rates made up of index rate plus margin.
Some of the common indices used for loans include:
- London Interbank Offered Rates (LIBOR)
- Certificate of Deposit (CD Index)
- Cost of Funds Index (COFI)
- Treasury Bills Index
Having a home loan pegged against these indices mean that a borrower will never be able to pay a lower interest rate than the market.
This is because whenever the market goes up, the indexes increase too. And will be reflected in the ARM’s new interest rates.
Conversely, it also means that should the market go down, the fully indexed rate of the borrower’s loan will also be reduced.
Do note that volatile markets can cause indices to swing wildly.
So it’s not suitable for borrowers who cannot handle uncertainty.