You have just borrowed $235,000 using a 1/1 ARM where payments for the first yea

Question

You have just borrowed $235,000 using a 1/1 ARM where payments for the first year are interest-only and the balance of the loan is fully amortized over the remaining 29 years. The initial composite rate as well as the initial interest rate for the first year of the loan is 4.5% and there are no caps or limitations on future rates. The composite rate on the loan is determined by the 1-year LIBOR rate plus a margin of 2%. If you expect the yield on the 1-year LIBOR to be 4% one year from now, what monthly payment do you expect to make at the beginning of year 2?

Explanation / Answer

We need to find out monthly payment at the beginning of year 2.

Loan Amount will remain $235,000 at the beginning of year 2 which is our PV. Fully amortized over the remaining 29 years, N= 29*12 = 348 months

Composite rate = 4% plus 2% margin = 6% or 0.5% on monthly basis

Use PMT function in excel or on your financial calculator to get $1419.36 monthly payment

=PMT(0.5%,348,235000,0,1) in excel gives you this result, see below;

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