Jul302012
Do the benefits of shadow inventory outweigh the costs?
Shadow inventory is composed of delinquent mortgage holders who still occupy the houses they are not paying for. Many in shadow inventory have been living payment free for years, and many will continue living for free for several more. So why did banks do this? Ordinarily, banks would foreclose quickly to get their capital back to loan it profitably to someone else. What was their benefit in allowing so many to squat for so long?
In mid 2008, house prices were crashing hard, particularly in subprime dominated markets which were the first to implode when their toxic mortgages required higher payments. Lenders quickly realized prices were crashing because they were flooding the MLS with inventory, and the available buyer pool couldn’t absorb it at bubble-era prices. A certain amount of price correction was inevitable because prices were too high, but many markets began to overshoot to the downside under the weight of so many foreclosures.
For the banks, continuing to flood the MLS with foreclosures was reducing the value of the collateral backing their loans and increasing their losses. It was in their best interest to stop and maintain as much bubble-era pricing as they could. New England witnessed the extreme of delinquent mortgage squatting as the legions of delinquent loan owners were not foreclosed on. As a result, their prices are still artificially inflated, and many copycats defaulted on their mortgages to obtain the same free housing benefit.
The national economy also benefited from this arrangement. Since millions of loanowners no longer made house payments, their income was freed up to spend on other goods and services. The squatter stimulus is huge, and politicians won’t complain about anything which stimulates a weak economy. Both banks and politicians supported a policy that enabled millions of delinquent mortgage squatters.
These benefits don’t come without a cost. First, supporting artificially high house prices reduces real estate transaction volumes. realtors are blind to this obvious fact, and they consistently endorse any policy designed to support inflated prices, particularly relaxing lending standards which they see as an impediment to more transactions. realtors would generate more commissions if prices fell further and more people could afford housing. Further, inflated house prices force new buyers to pay more than they should. If these buyers paid less, they would have more disposable income to stimulate the economy. Low interest rates have offset this problem to some degree but not enough to prompt enough buying to clear out the overhang of distressed inventory.
The weakness in the economy we experience today is partly due to the lack of disposable income, but it’s also caused by a moribund homebuilding industry. A significant sector of our workforce is unemployed. A short, painful correction was inevitable, but this has dragged on for five years now because rather than clearing out the overhead supply, lenders have been metering it out slowly which directly competes with builder supply. Though improving now, homebuilding will continue to sputter until the competing REO are washed through the system.
Another cost of shadow inventory is less obvious but perhaps more pernicious. We are creating a generation of borrowers who have no compunction about over-borrowing when times are good because they know they will be given years of free housing if there is a collapse. This moral hazard is sowing the seeds of the next housing bubble and crash. Plus, the gross unfairness of the distribution of these rewards is infuriating, particularly to those who must pay for it with a variety of government bailouts. The costs of these problems are difficult to quantify but no less real.
Despite these costs, the banks, government officials, and realtors all want to see shadow inventory persist because it serves to sustain inflated bubble-era prices and it provides a needed economic stimulus.
Diverting the Foreclosure Flood
By Steve Berkowitz, CEO of Move, Inc., operator of Realtor.com — 7/26/2012 @ 7:34PM
Millions of Americans, myself included, applauded when the nation’s five largest lenders and attorneys-general from 49 states reached a landmark $25 billion settlement last March.
I, for one, did not applaud. In fact, I was appalled because this settlement primarily benefited the banks. Millions of Americans were duped into thinking this benefited them, but it didn’t. California has already decided to take the settlement money earmarked for loanowners and spend that money on something else.
Among many things, this landmark agreement settled charges of foreclosure processing abuses dating back to 2008.
While the settlement was good news for distressed borrowers, the processing of foreclosures slowed dramatically during the 18 months of negotiations. The slowdown created a shadow inventory of more than 1.5 million shuttered homes ─ nearly twice the number of foreclosures sold last year and representative of about 39% of the 3.6 million+ foreclosures completed nationally since the start of the housing crisis in September 2006.
This makes for a compelling narrative, but it’s not accurate. Shadow inventory was building up long before any Robo-signer problems. Banks used Robo-signer as a cover to justify a policy they were already implementing. Plus, the real shadow inventory is likely much larger than reported.
If this wave of foreclosures is released into local markets without concern for their impact on home values, many of our local real estate markets could be threatened.
Yes, they would. However, lenders have been managing this problem for the last five years, and so far, with few exceptions, they have managed to sustain artificially high prices in most markets. And now, they have the support of 3.55% interest rates courtesy of the federal reserve. I think it very unlikely they will suddenly start to push REO through the system at a rapid pace and cause prices to crash.
Thus, the long-awaited recovery, so critical to restoring value and equity back to our real estate economy and American homeowners, could saddle several major markets with foreclosures for years.
That is what will happen. The long-term liquidation of these houses will keep prices right where they are for a very long time. I speculate it will take at least until 2015 before foreclosure processing isn’t a dead weight holding back normal 3% per year appreciation.
A survey Realtor.com recently conducted found that more than half of all Americans (55.7%) are concerned that backlogged foreclosures will lower home values in their markets.
That’s encouraging. I didn’t realize that many people knew about shadow inventory. This may explain why realtors, economists, and reporters are embarking on a concerted effort to convince the general public the bottom is in and it’s safe to buy a house.
Some lenders are moving to ease their inventories in some of the states with the highest levels of backlogged foreclosures. Sales of bank-owned foreclosures were down nationwide from a year ago, but were up significantly in judicial states. In the second quarter of 2012, foreclosure starts increased in 31 states year-over-year, of which 17 were judicial states, hinting that lenders are still working through the bottleneck of unsold REO inventory in many areas. In fact, four of the five states in May 2012 with the highest foreclosure inventory as a percentage of all mortgaged homes were judicial states: Florida (11.9%), New Jersey (6.6%), Illinois (5.3%), and New York (5%).
Our nation’s lenders and real estate leaders must work together to preserve the price stability gained over the past 18 months by controlling the flow of foreclosures back into for-sale inventory.
Oh, really? The banking cartel must be assisted by realtors to force buyers to overpay for real estate? I don’t think so. The author of this article is from realtor.com. No buyers should believe realtors are interested in their well being. To a realtor, buyers are chum to be fed to the market to earn a commission.
We know that sudden spikes in inventory shock prices and destabilize markets, while healthy markets can sustain relatively high saturation levels of inventory if introduced over time. Should large volumes of foreclosures hit these markets over a relatively short period, home values will suffer and the emerging housing recovery will regress in many key markets.
No. If a large volume of foreclosures were processed quickly, many people would get bargains, and when the supply is gone, prices would rebound, and those that purchased at the bottom would have equity to re-ignite a move-up market. If we meter these houses out slowly over time, buyers will overpay and have less disposable income, and the move-up market will languish for a decade or more.
… Monitoring local market conditions so lenders can moderate the release of foreclosures is also important. In recent years, technology has made tremendous strides in enhancing our ability to watch local real estate markets in real time. With listings data from 850+ MLSs, Realtor.com tracks inventories, time on market, and list prices on thousands of markets with accuracy. We’re prepared to work with leading lenders to help actively monitor local markets so they can regulate the release of foreclosures into the marketplace.
He is openly proposing to collude in manipulating the real estate market. I recently asked Is the banking cartel in violation of the Sherman Antitrust Act? I think we have our answer.
Since the onset of the Foreclosure Era in 2006, we’ve learned a great deal about foreclosures and how they can devastate home values by destabilizing markets with sudden waves of discount-priced properties. By working together, lenders and real estate leaders can maintain the stability of our local markets by keeping another wave of foreclosures from sending America’s real estate markets under water.
I hope they fail.
“Another cost of shadow inventory is less obvious but perhaps more pernicious. We are creating a generation of borrowers who have no compunction about over-borrowing when times are good because they know they will be given years of free housing if there is a collapse. This moral hazard is sowing the seeds of the next housing bubble and crash. Plus, the gross unfairness of the distribution of these rewards is infuriating, particularly to those who must pay for it with a variety of government bailouts”
Generation bailout. Two incomes and no planning, just emotional spending. Someone will bail me out housing, retirement, tuition, and healthcare. I just need to work and never stop purchasing. What is a saving account again?
Saving was a casualty of the housing bubble. Is the habit gone for good? I hope not. That really would be a terrible price to pay.
IrvineRenter – low interest rates are also discouraging savings. That’s not a good reason to have high interest rates, of course, but if you earn 1% per year on your savings and pay taxes on it it hardly pays to save.
If your California joint income is $250K+, in 2013 you’ll be paying half of any interest earned in taxes:
33% IRS Income Tax
9.3% FTB Income Tax
3.8% Affordable Care Act Investment Income Tax
2.35% Medicare Tax
48.45% Total Tax
That 33% rate could jump to 36% too.
At a time when we all should be saving more, the federal reserve is doing everything to ensure we save less. Apparently, the IRS isn’t helping out much either.
The Recession’s Impact on Confidence in Homeownership
While younger folks are oftentimes viewed as being more prone to taking risks than more elderly people, a study found that this idea doesn’t ring true when it comes to buying a home during an economic downturn.
The study was authored by economists from the Federal Reserve Bank of Boston, Anat Bracha and Julian C. Jamison, and examined how the recession affected attitudes toward homeownership.
The study found that people who lived in hardest-hit ZIP codes in 2008 were significantly more likely to be confident about owning a home if they are older (over 58), but are significantly less likely to be confident about owning a home if they are younger.
According to the authors, one reason for this is because younger respondents have more malleable perspectives, whereas older respondents have a worldview that is more difficult to alter. Thus, older respondents may simply interpret the house price drop as a temporary dip in a market that is bound to become stable again, making the downturn a good time to purchase.
A chart in the report showed that the greater the drop in home prices, the less confident individuals under 58 were in the soundness of buying a home. With older individuals, the bigger the drop in prices, the more confident they were in the idea of buying a home.
The study also examined the effects of simply knowing about the recession’s impact versus first-hand experience and how this changes attitudes toward homeownership. The authors found that having information about the market crash is not enough to change individual attitudes. Instead, one must have experienced the crises either by personally enduring a hardship from it or witnessing someone close to them suffer.
“Even an extremely negative experience such as the Great Recession, the worst U.S. economic crisis since the Great Depression, was not enough to shift the attitudes of those who lived through the crisis-and thus had full access to information on its effects-but did not have strong first- or second-hand experience of these adverse effects,” the authors wrote.
The study found that older individuals who experienced a market crash were actually more confident in the idea of buying a home over renting, whereas the younger group of adults who had experience with the real estate crash were marginally less confident in the benefits of owning.
That’s not surprising in light of game theory, i.e. studying gambling behavior and how to stimulating gambling. If you never won a dime in gambling, you’re not likely to think you can win against the house. It just the odds of the game. If you’ve won a few times, you’re more likely to think you can beat the house. Random winnings with behavior and drug stimulus is the best inducer for gambling — or should I have used weakening instead of stimulus? Once you get the behavior, desperation can be added.
The cost is only a cost if one must bear it. With the bailouts or non-recouse,walk aways with net refin. or HELOC in the pocket., it’s not a cost to the beneficiaries who can view it as an expense with great ROI, It’s a cost to those must pay it without any tangible benefit — the taxpayers, especially those that did not directly benefit — Renters, those that only has one house and didn’t borrow against it, etc.
I see the housing mess as someone ordering the most expensive items for a large dinner, leaving the bill to the next table and complaining about paying for the tip.
Yes. The over 58 crowd was handsomely rewarded for playing the real estate roulette table. The younger generation to bought overpriced homes from the baby boomers were not so fortunate. The younger generation’s life experience includes an equity crushing, foreclosure inducing crash. They never got the benefit, so they don’t see much point in playing again.
Prices Up, but 2nd Half of 2012 Could See Declines: Radar Logic
Radar Logic’s composite to measure home prices may show monthly and yearly gains, but contrary to other reports, the analytics company argues that the increases don’t mean prices have hit bottom.
“Those people looking at current results and calling a bottom are being dangerously short-sighted,” said Michael Feder, Radar Logic’s CEO. “Not only are the immediate signs inconclusive, but the broad dynamics are still quite scary. We think housing is still a short.”
According to Radar Logic’s RPX Composite, which is based on 25 metropolitan statistical areas, prices in May rose 2.6 percent month-over-month and 0.7 percent year-over-year.
Despite these findings, Radar Logic contends the increases are due to temporary forces, such as the warm winter weather, and appreciation may not be consistent for the entire year based on previous trends.
Radar Logic data from 2009 to 2011 revealed a pattern of price appreciation from the beginning of the year through the end of June, followed by price declines for the rest of the year.
For example, from January 1 to June 30, the RPX Composite increased 3 percent in 2009, 3.4 percent in 2010, and 2.2 percent in 2011.
However, from July 1 to December 31, prices moved in the opposite direction and fell by 2.7 percent in 2009, 6 percent in 2010, and then by an even greater 7.7 percent in 2011.
“Even if the mild winter hypothesis turns out to be false, home prices are not likely to appreciate on a sustained and meaningful basis. Rather, short-term appreciation will paradoxically short-circuit long-term appreciation and perhaps trigger further declines,” Radar Logic stated.
The analytics company explained the higher prices seen will lead to more supply as financial institutions start unleashing their foreclosure inventory and homeowners that were unable to sell due to negative equity will at last list their homes. As supply increases, prices will move downward again.
Also, with much of the current demand coming from institutional investors, Radar Logic also argued that the rise in prices may mean fewer purchases from investors, who may not be able to yield the returns they are seeking as prices climb.
While the speculation is based on data from previous years, it’s still hard to be certain about where prices are headed for 2012.
“From one year to the next, price trends tend to vary much more in the second half of the year than in the first,” said Quinn Eddins, director of research at Radar Logic. “We will have to wait to see data for October or later to know whether 2012 will turn out to be a good year or a bad year for home prices.”
“…Our nation’s lenders and real estate leaders must work together to preserve the price stability gained over the past 18 months by controlling the flow of foreclosures back into for-sale inventory…”
Price stability = code, of course, for “artificially high prices and market control”
What really strikes me about this article is the authors chutzpah. It’s almost has if I was reading pages out of The Godfather.
He was openly calling for market collusion to manipulate prices to be higher than a fair market should be. This kind of anti-competitive behavior used to be prosecuted. Now, it’s openly encouraged.
When you do it, it’s jail time.
When the largest banks do it, it’s bonus time.
Do you think that the banks will be FC soon on above $600k loans or loans in Irvine? As I understand, the low end loans have been mostly cleared and the new ones are reentering FC. The large $$$ on the CA costal region have yet to enter into massive REO due to looking the other way?
The prime mortgages are mostly what they have left. They will still try to amend-extend-pretend to the degree they can because they don’t want to lose money on the REO. If prices start to rise and those houses are no longer underwater, look for the banks to start pushing out the squatters.
I missed this quote….”If this wave of foreclosures is released into local markets without concern for their impact on home values, many of our local real estate markets could be threatened.”
Yeah low prices are bad thing. You want to save for retirement? Buy what you can afford in Real Estate.
If you run partial differential equation on market pricing with all buyers/sellers remained constant then this article is very at the mark. However if you start factoring the change in buyers vs the change in seller, the pricing picture looks very much dimmer. The new group of buyers supposed to enter the market currently have a mountain debt of tuition, could not find a job to pay for anything decently after graduating from colleges while the current group of sellers are getting older and have no or minimum benefits to sell their homes, not to mention that the new group of buyers are much less in numbers than the sellers.
I’m saying good-bye to your linear approximation of prices. We are entering a dynamic era of non-linear behaviors, worldwide staggering economy for at least 10-20 years counting from 2008 until something are really dramatic happening.
With all the bubble activity, our pricing is certain to be anything but linear.
We also need to factor in the irrational exuberance of former owners who gamed the system for maximum benefit. They are out of action right now while their credit recovers, but as soon as many of them get the chance, they will want to roll the dice on the next bubble.
I doubt that these people can affect the market the way the other 2s because 1) lack in number superiority relative to group 1 & 2 and 2) lack of purchasing power (not rich enough) to change the direction of the market as group 1 (younger generation) or group 2 (owning home with minimum benefit to sell) could do. These people are just happened at the market at the right moment due to sheer luck and they will fan the flame once the trend is established. But by themselves, they won’t cause any change of events. The trend will not be established if group 1 doesn’t enter the market and the system today does favor to anybody but group 1.
For most federally insured student loans, there is no forgiveness. There are few catagories for forgiveness and I don’t think BK is one of them. It’s better to HELOC to payback a student loan. Defaulting on a house loan may be forgiven with BK. But you need the income to get the house loan. It’s a Catch 22. Get your parents to take out the loan?
The boom bust cycles will continue as long as the current reward and non-punishment system are in place for the bonus and exec. pay.
One of the HELOC abuse posts I did years ago was a doctor who used a HELOC to pay off his $250,000 in student loan debt. He defaulted on the HELOC. If he declared bankruptcy at that point, he could have wiped out all of his debt.
One of the most fascinating parts of this bubble/bust is the ability for people to believe every situation that arises can last forever. During the peak everyone thought house prices would go up endlessly over time, allowing them to borrow amounts of money that would have been considered insane a decade earlier. Now that interest rates are low and banks aren’t foreclosing, people are assuming this is the new normal that will last forever (or decades at least). I have no crystal ball, but common sense tells me that the current market is completely unsustainable. 1600sf SFH’s in run-of-the-mill hoods selling for upwards of $750k is insane. Borrowers squatting for years without paying is insane. If I were a betting man, I’d bet this won’t last. If you take out a 30-year mortgage on an expensive house now, you’re essentially assuming that rates will stay low and banks won’t foreclose on squatters for decades. Good luck with that.
“If you take out a 30-year mortgage on an expensive house now, you’re essentially assuming that rates will stay low and banks won’t foreclose on squatters for decades. Good luck with that.”
I hadn’t paused to ponder that simple truth. You’re absolutely right. The only way current pricing is sustained is through a completely untenable set of circumstances that exist today. It’s hard to say what the future looks like, but it will certainly look different than today. Higher interest rates, higher inflation, new inventory from former squatters, and so on.
IR I’m going to frame this reply.
Why is everyone so sure the fed will increase rates for inflation? Debt creates inflation and they have only lowered the rate over the past decade. In a nonfree market where rates,(libor) laws, and the regulators are all manipulated you need to stop believing and predicting based upon free market valuations.
I dont see anything changing until the next bubble is created.
“you need to stop believing and predicting based upon free market valuations”
Lately, when I ponder what the federal reserve will do with interest rates, I think about what a natural market would do, and I figure the federal reserve will do the opposite.
Agree – people taking out loans now will likely be underwater short term if rates go up, but with inflation looming (only way out of gov debt scenario), taking out a loan is an awesome idea as payments will seem small (assuming wages increase with inflation)
Not to mention houses are perishable items. The longer they sit, the more they rot, the more they rot the less they will be worth when they put them on the market.
This site casts aspersions regularly at realtors and NAR. I’ve thought the negative remarks might have been overdone – they’re just people trying to make a living after all, right? Until I had my own personal experience.
I had a “friend” who was a realtor and helped me find a rental. When my rental was coming to an end I bought a house. I did all the research myself online and went to open houses. I used the listing agent for the purchase.
I was very upfront about it with my “friend”. She had been rather pushy to get me to use her but when I told her I was not going to use a buyer’s agent she seemed to accept that.
Then she did everything she could to try to screw me on the termination of the rental. (She had become the owner’s agent on the re-rental.) She never returned phone calls, she fought with me over cleaning, and *tried* to change the locks (idiotically, she left a handwritten note to a locksmith under a rock outside the front door of the unit where we found it and called the owner).
She told a mutal friend that she resented “being cut out of the deal”. She seems to have forgotten that a commission is supposed to reflect the work she did on the transaction. She did not do any work.
I worked my ass off for years to afford a nice house. Does she really believe she gets $10,000 simply because she happens to know me?
One other little tidbit: I took some real estate classes when I lived in Georgia years ago. This was when sites like ForSaleByOwner.com were taking off where they would list your house on the MLS and give a commission to the buyer’s agent. I asked one of the experienced agents teaching the class what she thought of these sites and whether she would show a house listed that way. Her response, “I might show that house, but it would be THE LAST one I showed.”
Sign me,
Flabbergasted
This from an agent of over 30 years experience.
“She told a mutal friend that she resented “being cut out of the deal”. She seems to have forgotten that a commission is supposed to reflect the work she did on the transaction. She did not do any work.
I worked my ass off for years to afford a nice house. Does she really believe she gets $10,000 simply because she happens to know me?”
This is the problem with realtors. They have completely lost the connection between the work they do and the compensation they expect from it. Because so many deals fall through, they believe they are entitled to ten times the value they added on the deals that happen.
Your experience is quite common, unfortunately. If it weren’t my occasional anti-realtor screeds wouldn’t resonate with people, and I wouldn’t write them. Those posts consistently get the most clicks and the most pageviews.
Thanks for sharing.
Thanks for giving me a venue to vent.
What’s really funny is that though I’m not usually a fan of conspiracy theories (only dead men keep secrets, etc.), I do believe there is one in the real estate industry among the realtors. I guess if you carry it on out in the open there’s no need to worry about the secret getting out.