The teaser rate of a mortgage refers to the initial years of the loan when it commences during which interest rate is lower than the fully index rate.
Sometimes the teaser rate can be so low that it can seem to be crazy!
The goal of these teaser rates is of course, to draw attention and acquire more borrowers for lenders.
It can also appear so attractive that people who have never thought about buying a house find the deal too tempting to ignore.
As teaser rates can be significantly low than normalized mortgage rates, borrower can also find themselves being approved for a larger loan amount than they thought they could get.
This in turn translates to a higher loan quantum approval as borrowers can afford more than the calculated monthly payment.
It is often referred to as a hybrid ARM when used with ARMs, and called a hybrid mortgage when used with FRMs.
Teaser rates have been labelled as one of the reasons that caused the financial crisis of 2008.
When the initial period of teaser rates expire and normal interest consisting of index plus spread kicked in, a lot of borrower found that they couldn’t afford the monthly repayments.
What many borrowers didn’t realize was that the grand master plan was always to draw them in with teasers. Then lock them in with fully index rates after the initial period.
Brokers and bankers then tell borrowers that they can refinance their mortgages after the teaser rate periods.
This can sound like pragmatic advice on the surface.
But what borrowers who don’t follow financial markets don’t know was that interest rates were already so low that the only direct it could go was up.
By the time teaser rate periods expire, the interest rates in the market were already higher than what they were on.
So there were simply no available options to refinance to a home loan with lower mortgage rates.