01
ARM Anatomy
An adjustable-rate mortgage (ARM) has three core components: an initial fixed period, an adjustment frequency, and a benchmark index + margin that determines the rate after the fixed period ends.
Common ARM Products — Structure & Use Case2026
| Product | Fixed Period | Adjusts Every | Typical Rate (2026) | Best For |
|---|---|---|---|---|
| 3/1 ARM | 3 years | 1 year | 5.8% | Short-term holds |
| 5/1 ARM | 5 years | 1 year | 6.1% | 5–7 year horizon |
| 7/1 ARM | 7 years | 1 year | 6.3% | Medium horizon |
| 10/1 ARM | 10 years | 1 year | 6.5% | Long-ish horizon |
| 5/6 ARM | 5 years | 6 months | 6.0% | SOFR-indexed loans |
02
Cap Structures Explained
ARM caps limit how much the rate can increase. The standard cap structure is expressed as three numbers: Initial / Periodic / Lifetime.
1
Initial Cap (First Adjustment)
Maximum rate change at the first adjustment after the fixed period ends. Typically 2% or 5%. A 2/2/5 ARM starting at 6.1% cannot exceed 8.1% at the first adjustment.
2
Periodic Cap (Each Subsequent Adjustment)
Maximum change at each annual adjustment after the first. Typically 1% or 2%. Limits the speed of rate increases even if the index moves sharply.
3
Lifetime Cap (Total Maximum)
The absolute maximum the rate can ever reach above the initial rate. Typically 5–6%. A 6.1% ARM with a 5% lifetime cap can never exceed 11.1% — ever.
03
Index Benchmarks
After the fixed period, ARM rates are calculated as: Index + Margin = Fully-Indexed Rate. The margin (typically 2.25–3.0%) is fixed at origination; the index floats with market rates.
- SOFR (Secured Overnight Financing Rate) — The dominant ARM index since 2023, replacing LIBOR. Based on overnight Treasury repo transactions. Most new ARMs use 30-day average SOFR.
- 1-Year CMT (Constant Maturity Treasury) — Still used by some lenders for 5/1 and 7/1 ARMs. Tracks 1-year Treasury yield.
- 11th District COFI — Cost of Funds Index, primarily used by West Coast savings institutions. Slower-moving than SOFR.
Example: 5/1 ARM at Year 6
Originated at 6.1% (SOFR 3.1% + 3.0% margin). At first adjustment: SOFR is now 4.5%. New rate = 4.5% + 3.0% = 7.5%, but initial cap of 2% limits increase to 8.1%. Actual rate set at 7.5% — within the cap, so no cap applies here.
