Problem 1 (40 marks)
MakeNu Mortgage Company is offering a new mortgage instrument called the Stable Mortgage. This mortgage is composed
of both a fixed rate and an adjustable rate component. Mrs. Maria Perez is interested in financing a property, which costs
$100,000, and is to be financed by Stable Home Mortgages (SHM) on the following terms:
The SHM requires a 5% down payment, costs the borrower 2 discount points, and allows 75% of the mortgage to be fixed
and 25% to be adjustable. The fixed portion of the loan is for 30 years at an annual interest rate of 10.5%. With neither
interest rate cap nor payment cap, the adjustable portion is also for 30 years with the following terms:
Initial interest rate = 9%
Index = one-year Treasuries
Payments reset each year
Margin = 2%
Interest rate cap = None
Payment cap = None
The projected one-year U. S. Treasury-bill index, to which the ARM is tied, is as follows:
(BOY) 2 = 10%
(BOY) 3 = 11%
(BOY) 4 = 8%
(BOY) 5 = 12%
(a) Calculate Mrs. Perez’s total monthly payment s and end of the year loan balances for the first five years.
(b) Calculate the lender’s yield, assuming Mrs. Perez repays the loan after five-years.