Lenders own $30 billion in California single-family homes

Over the last few years, I have decried efforts from crony capitalists to corner the single-family REO market by negotiating bulk sales directly from lenders or the GSEs. I still believe individual investors have a large role to play in cleaning up the mess, but after contemplating how large the problem really is, I am far less concerned that crony corporations could buy enough to impact the market. In California alone, each month lenders take back nearly $2 billion in single-family properties. They have a standing inventory of about $30 billion. They only obtain $2 billion a month because that’s all they can sell on the MLS, and they are trying not to increase their inventory.

How many REO?

There are no accurate measures of distressed inventory. Estimates vary based on the assumptions used. CoreLogic estimates approximately 1.5 million homes are currently in the foreclosure pipeline as pending REO, pending foreclosures, and seriously delinquent loans. As this data is collected from voluntary disclosures from lenders, there is legitimate concern this number is deliberately understated.

The current inventory number does not take into account future delinquencies. Zillow estimates between 25% and 30% of homeowners are underwater. However, their estimates are based on original first mortgage data and does not include subsequent refinances and second mortgages. The actual percentage of underwater homeowners is much higher, and when sales commissions and closing costs are factored in, some estimates conclude that over 50% of mortgage holders are effectively underwater.

7.5M homes to be liquidated over the next 5 years

With falling prices, hope of regaining an equity position is fading, and many will strategically default. Many underwater homeowners will end up as foreclosures. The future pipeline could be as many as 7,500,000 homes. With an average sales price of near $150,000, the single-family distressed property market could be $1.125 trillion.

Foreclosure Statistics

California, Nevada, and Arizona foreclose on over 20,000 each month. This number is actively managed by lender to mirror MLS liquidations in order to prevent their REO inventory from becoming any larger.

Third party auction sales in California, Nevada and Arizona total $1.245 billion each month. However, lenders take twice as many homes back each month adding $2.5 billion of newly acquired real estate owned.

Between California, Nevada, and Arizona, the total standing inventory of lender REO is $36.875 billion with the vast majority concentrated in California.

More than $3.5B sold at auction each month in California, Nevada, and Arizona

Each month approximately 14,000 foreclosures occur in California. This number is actively managed by lenders to mirror the absorption rate on the MLS. Each month about 65% of the foreclosures go back to the lender and 35% are sold to third parties at auction. Lenders take back approximately 10,500 homes. Third parties obtain around 3,500 properties per month with an average winning third-party bid of approximately $250,000. Each month 875 million in properties are purchased by third parties at auction.

In Nevada each month approximately 2,100 foreclosures occur with 65% going back to the lender and 35% going to third parties. The average winning bid on the approximately 700 homes per month is $175,000. The total cost of third-party auction purchases is $122.5 million per month.

Arizona has approximately 4,500 foreclosures per month with about 65% going back to the bank and 35% going to third parties. The 1,500 third party sales average $165,000 for a total monthly third-party auction cost of $247.5 million.

Nearly $37B in REO standing inventory

Lenders in California are adding $2.5 billion in each month to their existing inventory. They have been actively managing the rate of foreclosure to match MLS sales with new inflows of REO. They have maintained a steady inventory of 100,000 REO for the last three years. At an average resale value of approximately $300,000, that’s $30 billion of standing REO inventory just in California.

In Nevada, lenders maintain an inventory of about 13,000 REO with an average resale value of approximately $200,000 for a standing inventory value of $2.6 billion.

In Arizona, the average monthly inventory is about 22,500 homes with an resale value of nearly $190,000. Total standing inventory of REO is $4.275 billion.

Private equity preparing to buy bulk portfolios

The government actively courts private equity firms to solicit bids on bulk portfolios of GSE properties. Most of these firms will commit less than $100 million, but some of the larger players examine deals in the $100 million to $1 billion range, but that’s as large as they get. This is a multi-trillion dollar problem. There isn’t enough private equity to buy the homes available much less crowd out smaller investors.

What impact will bulk sales have on the housing market?

House prices are set on the fringes. If lenders and the GSEs start selling large amounts of inventory in bulk, they won’t have to sell them on the MLS. This could stabilize the housing market. Since these properties will be added to the rental pool, it will also blunt rent increases on single-family homes. In short, it will stabilize both markets, but it will also limit increases in both sales prices and rents going forward. 

The inventory of homes added to the rental market will someday be returned to the resale market. By then many former owners will buy who are currently forced to rent because their credit is ruined and they don’t have a down payment. Supply and demand will be rebalanced, but since so much supply will be added in coming years, price appreciation will be minimal.

Will bulk sales cause the housing market to bottom?

If the housing market does bottom this year, it will be due to bulk sales of REO. We know lenders are increasing their foreclosure efforts to clear out shadow inventory, but if these REO don’t come to market on the MLS and add to supply of must-sell inventory, prices will not be pushed lower. Without the added supply, the market will stop falling. There is little danger of a rally with rapidly increasing prices, but bulk sales may relieve the supply pressure enough to stop prices from going down.

BTW, Calculated Risk called the bottom a few days ago. If bulk REO relieve the supply pressure, he will be right.