What characterizes an adjustable-rate mortgage (ARM)?

An adjustable-rate mortgage (ARM) is characterized by a fluctuating interest rate that is tied to a market index. This means that the interest rate can change at specified intervals based on adjustments to the index, which typically reflects overall economic trends. As a result, the monthly mortgage payment can vary over the life of the loan, potentially leading to lower initial payments compared to fixed-rate mortgages but also creating uncertainty regarding future payments.

The design of an ARM aims to offer borrowers the benefit of lower rates initially, which can be appealing for those who may sell or refinance before the rates adjust significantly. In contrast to fixed-rate mortgages, which maintain the same interest rate throughout the loan term, ARMs introduce variability that can either benefit or challenge borrowers depending on market conditions.

The other options describe features that do not apply to ARMs. A fixed interest rate throughout the loan term characterizes fixed-rate mortgages rather than ARMs. An interest rate higher than conventional loans generally does not define ARMs, as they can often start with lower rates. Lastly, while some loans may have early repayment penalties, this is not a defining feature of ARMs. Each of these distinctions helps reinforce the unique nature of adjustable-rate mortgages in the housing finance landscape.