June 11 – The next installment on the foreclosed mortgages drama, due in August 2011 when a large percentage of adjustable rate mortgages are scheduled to reset at higher interest rates, gives a rationale for an expected stock market plummet in the first half of 2011, said Allen Reminick, president of Blue Apple Trends.

Payment option ARMs were a method in recent years for some homebuyers to enjoy initial low mortgage payments. The contracts arrange for unpaid interest costs to be added to the principal, thus increasing the overall size of the loan. They also stipulate that higher interest rates will kick in later, and thus raise monthly payments.

As many as 1 million option ARMs will adjust in the coming four years, including about three quarters of the loans in 2010 and 2011, reported Bloomberg News. About 54,000 loans will reset in August 2011.

Jumps in monthly mortgage payments could force some homeowners to abandon their houses, flood the real estate market with another wave of foreclosures, and put further pressure on banks and lenders.

“Concern by investors in 2011, when confronted with an imminent spike in foreclosures and its threat to asset values, could help push down the equities market,” said Reminick. Blue Apple Trends offers trading programs for equities, bonds and commodities contracts, based on understanding the forces that affect markets overall.

The Blue Apple Trends cycle models indicate a sharp decline in the equities market in first half of 2011, said Reminick. The prediction is based on several long-term and short-term cycles converging, he said.

More than $750 billion of option ARMs were created in the U.S. in 2004 to 2008, reported Bloomberg, citing First American CoreLogic  and Inside Mortgage Finance. Refinancing with a safer mortgage may be difficult if house values have dropped, as has happened in many areas of the U.S. 

Rates on one-year Treasury-indexed ARMs averaged 4.81% as of June 4, up from the previous week’s 4.69% and less than the year-earlier rate of 5.06%, according to Freddie Mac. Thirty-year mortgage rates rose to 5.59% from 5.29%, in the week of June 11.

The average interest rate for one-year ARM loans rose to 6.75%, from 6.61%, as of June 11, according to the Mortgage Bankers Association.

Mortgage-refinancing activity as of the week of June 5 declined to 59.4% of applications from 62.4% the previous week, said the Mortgage Bankers Association.

-- Laure Edwards. To contact the reporter, email laure@blueappletrends.com