ARM-holding homeowners tend to panic when their mortgage gets set to adjust; the feeling of "I better do something fast!".

If that's you right now -- if you have a conventional ARM getting set to adjust -- just hang loose, blood. Math is on your side. The smart move may be to let it adjust.

ARMs Are Adjusting Lower Right Now

Your mortgage rate could fall to as low as 3.125 percent.

It's all because of how ARMs work.

1. For some fixed period of time, the mortgage rate stays constant
2. When the fixed time period ends, the mortgage rate adjusts to a new rate based on a preset formula
3. Every 12 months thereafter, the mortgage rate re-adjusts against the same formula

The formula by which ARMs adjust is as follows:

And what are the "variable" and the "constant"? It depends on your mortgage, really, but if your home loan is making its first adjustment in 2010, the chances are very good that your ARM is structured as follows:

• The variable is the 12-month LIBOR -- currently near 0.850 percent
• The constant is 2.250 percent

This has been the default conventional ARM setup since mid-2005 and so long as the 12-month LIBOR remains low, so should your mortgage rate.

But therein lies the rub. LIBOR won't be low forever.

LIBOR Is Bound To Rise In 2010

Historically, LIBOR rates track very closely with the Fed Funds Rate and when the Fed starts to raise the Fed Funds Rate, LIBOR is going to rise, too. It's unclear when that will happen exactly, but LIBOR tends to rise ahead of actual Fed action.

Therefore, we can expect the 12-month LIBOR to rise well before the Fed raises the Fed Funds Rate. Maybe by a little and maybe by a lot. Either way, ARMs won't be adjusting lower much beyond Q1 2010.

Oh, and by the way, Fed Chairman Ben Bernanke has started laying the groundwork for such a move just last week. The writing is on the wall.

If you pass on the refinance this year, know that ARMs adjust annually so you'll face the same "Should I Refinance My ARM" question in 2011. Should LIBOR return to its historical 5 percent avergage by then, you can be sure your next adjustment will be up.

In other words, it may be wise to let your mortgage adjust in 2010, but foolish for 2011 and beyond.

Think Of The Present, Plan For The Future

So, if your ARM is adjusting and you want to know whether it's better to refinance or to just let the adjustment occur, and we can talk about making a plan.

LIBOR can change suddenly so what makes sense for you today might not make sense on the date of actual adjustment. Having a plan, therefore -- with contingencies in place -- is the best way to manage your ARM.

Call or email anytime. I'm looking forward to it.

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Dan Green is an active loan officer. Email or call 513-443-2020. Dan is on Twitter at @mortgagereports.