The stricken US mortgage market is set to suffer further setbacks in the next two years as $96bn (£53.3bn) of risky home loans sold with initial flexible payment options switch to more stringent terms. These will raise borrowers’ monthly payments by about 60%.

The number of borrowers falling behind on option adjustable rate mortgages issued between 2004 and 2007 could more than double, according to research published by Fitch Ratings.

Option ARMs allow borrowers to choose a low minimum monthly payment that often falls short of the interest due on the loan, typically for five years. The difference between the minimum and the full payment is added to the mortgage balance. This ability to borrow more before having to start repayment is known as negative amortisation.

At the five-year mark, the loan terms are 'recast' and the monthly payment is increased to ensure the full repayment of the loan by maturity.

Financial Times