Foreclosures increasing with REO resales to follow in 2011
Many loan owners quit paying their mortgages years ago. They enjoy a free ride while the banks wrestle with what to do with their bad loans. If the banks process their foreclosures, they must recognize the losses, and the resulting sales will find their way to the MLS. Typically, about one-third of all foreclosures go to third parties at auction. Even if lenders hold all their REO for better days, the third-party auction buyers will sell most of theirs. The result will be more homes on the MLS and lower prices.
If the banks don’t process their foreclosures, they will be giving away free houses. Loan owners are predictably excited about that idea, but the bondholders and shareholders of the banks who put up the money aren’t quite so thrilled. They invested in a bank, not a charity. Further, if word gets out (it already has) that lenders are not foreclosing on borrowers who don’t repay, many more borrowers will strategically default. Why would they pay for what they can have for free? Those who bought a home as a place for their family will likely keep paying, but those who bought for appreciation or are struggling with their payments will walk.
By not foreclosing and reselling the resulting REO, banks maintain an illusion of value on their balance sheets. Over the last five years, they afforded the luxury of ignoring the cost of the inevitable market impact of their liquidations. Any seller with an overabundance of supply impacts the market as they liquidate, and lenders have millions of bad loans to process. They used to fantasize about selling into a rising market. By now, they realize that isn’t going to happen.
Over the last five years, many housing market analysis and most in the media have ignored or dismissed the idea of shadow inventory. It’s difficult to tell whether this was out of ignorance or malice, but the reality of shadow inventory is becoming harder to deny. If shadow inventory weren’t a problem, the federal reserve would be bewildered and alarmed, and the prospect of rising foreclosures and lower prices would not be headlines five years into the bust. I guess shadow inventory was real after all.
Banks are getting more aggressive with the 3.5 million U.S. homes with seriously delinquent mortgages, setting the stage for a big wave of foreclosure action this year.
California and other states are likely to see an enormous wave of long-delayed foreclosure action in the coming year as banks deal more aggressively with 3.5 million seriously delinquent mortgages.
And experts said that dealing with the foreclosure process, from issuing notices of default to selling repossessed homes, is likely to push housing prices lower this year before the real estate market has a chance to recover.
A report from RealtyTrac, an Irvine data firm, said about 1.9 million U.S. homes were hit with default notices, foreclosures and other actions last year. That is down from 2.9 million in 2010. Seriously delinquent loans are defined as being four months in arrears.
“There were strong signs in the second half of 2011 that lenders are finally beginning to push through some of the delayed foreclosures in select local markets,” said Brandon Moore, chief executive of RealtyTrac. “We expect that trend to continue this year.”
The real estate market was in “full delay mode” last year on foreclosures as banks worked to correct legal problems with procedures in many states, Moore said.
The banks have been in full delay mode for many reasons. Legal barriers are among them, but with a problem this large, they were unwilling to deal with it in hopes it would correct itself as rising prices bailed them out. Everyone pinned their hopes on the federal reserve lowering interest rates so much that houses would become so affordable buyers would snap them up. It isn’t working out that way.
In California, 3.2% of homes logged at least one foreclosure filing last year, down from 4.1% a year earlier. But regional differences continued: 2.7% received notices in Los Angeles County and 2.5% in Orange County, compared with nearly 5% in San Bernardino County and 5.3% in Riverside County.
It’s also worth noting this difference has nothing to do with the number of delinquent loans. Because the loan loss severities are so much larger near the coast, lenders have been unwilling to deal with their bad loans here. If they continue to process bad loans aggressively in Riverside and San Bernardino Counties, the problems will be resolved there quicker than they will be here. Everyone is counting on the coastal areas to recover first, but I don’t think it will work out that way this time.
California saw a second-half surge in initial notices of default — the first warnings that a bank is preparing to seize properties with delinquent mortgages, said RealtyTrac spokesman Daren Blomquist.
Though many more foreclosures are expected this year, the number still will be below the peak of 2010, Blomquist said.
I wonder if that will be true. If they don’t process more than last year, it isn’t due to a lack of properties to foreclose on. Perhaps they feel they know the upper limit on what the market can absorb. We will see.
Connie Der Torossian, co-president of the Orange County Home Ownership Preservation Cooperative, a nonprofit housing counseling agency, said the distressed homeowners she helps are getting loan modifications or sales dates from banks far faster than in the past. The days of troubled borrowers spending two years in foreclosure limbo are at an end, she said.
“We’re not seeing people have to wait six or seven months to get an answer,” she said. “It’s more like six or seven weeks.”
Worried that the foreclosure flood could further undermine the housing markets, the Federal Reserve urged Congress recently to do more for troubled homeowners.
Some Fed officials have been advocating reducing the loan principal more often for underwater borrowers, those whose homes are worth less than their mortgages. The central bank also has been urging mortgage giants Fannie Mae and Freddie Mac, kept alive by three years of taxpayer bailouts, to unload their backlogs of foreclosed properties in bulk discount sales to investors who would then rent out the properties.
As an industry insider, I can tell you hedge funds are gearing up for this. I can’t say more at this time.
That process, which Fannie and Freddie officials said is under study, could help stabilize the housing markets. However, in the short term it would increase taxpayers’ tab for propping up the government-sponsored housing finance firms, which already has reached about $150 billion.
Central bankers have tried to resuscitate the economy by keeping interest rates at record low levels. Celia Chen, a housing economist at Moody’s Analytics, said the Fed is now taking additional steps because the economy remains fragile and could tip back into recession.
However, Chen believes housing is “poised for better days” after the backlog of foreclosures is cleared away. She said housing is now undervalued, with prices compared to incomes well below the average over the last 20 to 30 years.
In most markets, on a monthly payment basis, properties are undervalued. Record low interest rates will do that. Unfortunately, it will take several more years to work off the inventory. There will be some relative bargains over the next several years. After that, I imagine lenders will work on inflating the next housing bubble taxpayers will pay for.
RealtyTrac reported a dip in foreclosure filings in December, but Chen said that appeared to be only a holiday hiatus by banks. She projected that home prices will trend slightly lower as the distress sales take place but will bottom out this year in California and the rest of the nation.
After that, Chen said, the improving economy could put the housing recovery in “full swing,” driving prices up nationally more than 5% in 2013 and 7% in 2014.
California home prices probably will track the national trend and hit bottom during the middle of this year, she said. However, prices will probably recover at a slower pace than much of the country because housing and unemployment problems run so deep in the Golden State.
Prices won’t bottom in the middle of the year. The seasonal pattern is for prices to bottom now, rise during the spring and summer and decline for the rest of the year. Prices rarely rise in the fall and winter, and there is no reason to think they will this year.
The state’s difficulties were reflected in RealtyTrac’s report, which showed California with the third-highest incidence of foreclosure filings in 2011, behind only Nevada and Arizona.
However, analysts also said they expect housing in California to stabilize more quickly than in many states. The reason: a speedy foreclosure process that normally takes place without court action and is one of the most streamlined in the nation.
RealtyTrac said the average foreclosure took 352 days last year in California, down from a peak of 363 in 2010. By contrast, the foreclosure timeline was 806 days in Florida and 1,019 days in New York, both of which require extensive court review of foreclosures.
California will stabilize before Florida or New York, but don’t expect the bottom this year. There are not enough potential buyers to absorb the inventory much less push prices higher.
We all like to complain about the high prices in Orange County, but the housing bust with its lower prices and even lower interest rates makes prices much less offensive than they used to be. Look at today’s featured property. It’s a nice four-bedroom two-bath home of 2,000 SF in Rancho Santa Margarita, a nice south county community. At $499,000, it is more than 30% off its peak purchase price, and with a 3.92% interest rate, it will only cost the owner $2,600 per month using an FHA loan. A conventional buyer would spend closer to $2,000 a month. Those numbers are below rental parity. When we start seeing rental parity for FHA buyers, I expect to see more buying interest. It opens the door to many who don’t have the down payments.