Final answer:
An adjustable-rate mortgage (ARM) is a type of mortgage where the interest rate fluctuates with the applicable bank prime rate. It offers a lower interest rate initially but can increase or decrease over time depending on market conditions.
Step-by-step explanation:
An adjustable-rate mortgage (ARM) is a type of mortgage in which the interest rate is adjusted periodically to reflect market conditions. This type of mortgage fluctuates with the applicable bank prime rate. The interest rate on an ARM varies with market interest rates, which means that it can increase or decrease over time.
For example, if the prime rate goes up, the interest rate on an ARM will also go up, increasing the monthly mortgage payment. Conversely, if the prime rate goes down, the interest rate on an ARM will also go down, resulting in a lower monthly payment.
The advantage of an ARM is that it often offers a lower interest rate initially compared to a fixed-rate mortgage. However, because the interest rate can change, there is a level of uncertainty associated with an ARM. Borrowers need to be prepared for potential increases in their monthly payment if market interest rates rise.