Why the housing crash is far from over

I am no longer bearish. I have been an outspoken housing bear for over five years now, but based on recent developments, I have far fewer worries about another catastrophic decline in house prices. The recent changes are as follows:

  • Federal reserve’s open-ended commitment to unlimited stimulus for as long as it takes no matter the consequences.
  • Lending cartel’s improved control of inventory liquidation.
  • Removal of most barriers for refinancing underwater loans to aid kicking the can to spread out liquidations.

These new developments when combined with some older existing policies has finally created the conditions for a manufactured bottom to form.

  • Federal government’s suspension of mark-to-market accounting allowing unlimited delinquent mortgage squatting.
  • Federal reserve’s zero percent interest rate to member banks reducing their expenses to zero on non-performing loans.
  • Private equity funds mobilized to absorb foreclosures in key markets.

There are still many good reasons to be bearish. Keith Jurow outlines many of those reasons in the paper below. I could change my mind and become more bearish if the lending cartel loses control of its liquidations or if the federal reserve changes their mind on stimulus. Any recovery will be choppy, and where Keith Jurow is located in the Northeast, I still foresee much pain ahead, but here in the West, due to increased affordability, the low end has almost certainly bottomed, and although the move-up market will remain weak, I don’t foresee a catastrophic collapse.

Keith is one of my favorite authors on housing issues, and he told me I am one of the few writers he shared this recent paper with. He is perhaps more bearish than I am, but I don’t disagree with anything he writes. We both agree there are headwinds facing the housing market that will be with us for quite a while. In that regard, I don’t see the housing crash as being over either.

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Almost daily, the pundits are smugly proclaiming that the worst is over and housing markets around the country are bottoming.  I am really the only housing market analyst in the country who continues to assert emphatically that this is pure rubbish.

What follows are ten very important charts, graphs and tables which show why the housing collapse which began in mid-2006 is far from over.  The explanation which follows each graphic explains its significance so you can begin to see the big picture.  I suggest that you review these graphics carefully and prepare to take action to protect your client’s assets as well as your own.

If I were writing from the judicial foreclosure areas in the Northeast, I would likely be just as adamant as Keith that the bust isn’t over. I don’t think the housing collapse is finished there. In the Northeast, prices never did correct from the housing bubble, and since they haven’t processed many foreclosures, they are just at the beginning of their liquidations. Prices probably will fall there, and in some areas, the decline may be quite substantial.

Speculative Madness During the Bubble Years

Source: CoreLogic

The housing bubble was caused by an incredible speculative mania during 2004-2006.  These two charts clearly show the extent of speculative buying in the craziest markets and throughout the country.  The top chart shows the speculative purchases in three of the hottest markets.  The bottom chart shows the percentage of speculative purchases nationwide and in the four hottest bubble states.  This speculative madness was facilitated by a total collapse in traditional underwriting standards.

Refinancing During the Bubble Years of 2004-2006

I have my own chart of refinances I like to publish. In 2006, a whopping 88% of refinances has cash out in excess of 5% of the mortgage balance.

In my daily posts, I have examples of individuals who spent their homes. It was very common.

As I explained in my latest BUSINESS INSIDER article, nearly 27 million mortgages were refinanced during these three insane years.  Millions of these properties were refinanced more than once, especially in California.  Many of the loans were “cash-out refis” where the owner pulled cash out of the house’s growing equity.  Because of this, nearly all properties with either first or second liens refinanced during 2004-2006 are now underwater.  The total amount of mortgage debt on the property exceeds the value of the property.  This does not include the millions of mortgages that were refinanced in 2007 – 2009.  A growing number of these mortgages are becoming delinquent.  Sooner or later, the banks will have to move against these delinquent owners.  This spells real trouble for all major metros.

Lenders will not give away millions of homes to squatters. That just isn’t going to happen. But how will the banks liquidate these bad loans? This year, the lending cartel demonstrated they have the discipline to stop foreclosing and force prices to move higher. It was a remarkable feat given that this is a cartel and such arrangements are inherently unstable. Lenders have had five years to learn how to manage their dispositions. A cottage industry of consultants has sprung up to help banks manage their liquidations. And with no pressures on them to speed their liquidations, it seems likely they will just meter these things out as the market is capable of absorbing them. It will cap appreciation, but as long as they can continue orderly dispositions, the market will not crash.

Home Equity Line of Credit (HELOC) Disaster

During those three crazy bubble years — 2004-2006 — millions of homeowners took out these second mortgages to tap the equity in their home.  Some refinanced them one or more times to pull still more cash out of their property.  In California, it was not uncommon for banks to provide HELOCs of $200,000 and up.  This graph from Equifax shows that while the number of outstanding HELOCs has declined, there are still more than 11 million of them.  It is safe to estimate that at least 95% of properties with HELOCs are now underwater.  Growing numbers of these underwater homeowners are walking away from their mortgages.  The banks cannot indefinitely put off taking some kind of action against them.  This will also put tremendous downward pressure on home prices.

So far the banks have shown they can indefinitely put off taking action against properties with HELOCs and seconds. It’s been six years, and so far they have done little or nothing, and until they have the balance sheet strength to absorb the losses, I believe they will continue to do nothing. Particularly now that they believe prices are rising again, the longer they wait, the more likely they are to recover something when they do foreclose. It makes no sense for them to rush to foreclosure today and endure a 100% loss when they can foreclose five years from now and recover some of not all of their capital as the loan will be backed by collateral value again.

15 Worst Major Metro Housing Markets

Serious Delinquency Percentage (through March 2012)

Metro Area In Default (NOD) 90+ Days Delinquent Total
Miami 18.70% 4.30% 23%
Tampa/St. Pete 16.30% 3.80% 20.10%
Orlando 15.70% 4.30% 20%
Las Vegas 10.70% 8.40% 19.10%
Jacksonville 12.50% 4.70% 17.20%
Memphis 8.60% 6.80% 15.40%
Cleveland 8.40% 4.30% 12.70%
Chicago 9% 3.40% 12.40%
New York City 8.20% 3.50% 11.70%
New Haven 7.70% 3.30% 11%
Atlanta 5.40% 4.90% 10.30%
Philadelphia 6% 3.70% 9.70%
Phoenix 5.80% 3.70% 9.60%
Seattle 3.50% 5.90% 9.40%
Los Angeles 4.80% 3.70% 8.50%

Source:  foreclosure-response.org using LPS Applied Analytics data

This table shows the extent of the shadow inventory in the worst 15 major metros.  It includes both first liens in default and those delinquent more than 90 days but not yet in formal default.  For the full picture, you need to add roughly an additional 5% for those mortgages delinquent less than 90 days.  There is good historical data which shows that — except for modifications — very few of these seriously delinquent loans will become current again.  That spells major trouble down the road for all of these metros.

Shadow inventory is at the heart of the bearish argument — and there is a lot of it. The only bullish answer to the issue of shadow inventory is that these liquidations will be orderly and not cause prices to crash. I used to reject these arguments because I know cartels are unstable, but the surprising success of their efforts in 2012 to restrict supply have forced me to rethink this conclusion. It’s clear that the cartel lost control in markets like Las Vegas and Phoenix from 2008 to 2011, but the fact that they regained control in nearly every market since then is something bears cannot ignore.

90-Day Pre-foreclosure Notices Filed with NYS Dept. of Financial Services

February 13, 2010 – June 30, 2012

County Q1 2010 Q2 2010 Q3 2010 Q4 2010 Q1 2011 Q2 2011 Q3 2011 Q4 2011 Q  Q1 2012 

Q2 2012

Bronx     741    2,330    2,660    2,545    3,918    2,849    2,906    2,537   3,645


Kings    1,681    5,526    6,393    5,863    8,874    6,901    6,473    5,774   7,683


Nassau    2,201    6,992    7,804    6,945   11,739    9,851    8,321    7,110  10,051


New York     453    1,260    2,140    2,105    2,453    1,848    1,647    1,678    1,715


Queens    2,349    7,743    8,622    7,729   11,973    9,396    8,473    7,663  10,368


Richmond     741    2,373    2,577    2,270    3,979    3,030    2,798    2,488    3,332


Suffolk    3,245   10,219   11,293    9,843    18,225   13,054   12,159   10,320 15,653


Total for 7 Counties    11,411   36,443   41,489    37,300    61,161   46,929   42,777   37,570  52,447


State Total   22,001   69,529   73,254    66,627  113,891   83,880   84,144   72,178   98,571



This shocking table shows the number of seriously delinquent owner-occupied properties in all of NY City and Long Island.  These are confirmed numbers from the NYS Division of Banking.  They reveal that roughly 24% of all first liens in New York City and nearly 30% of those in Nassau and Suffolk Counties on Long Island are seriously delinquent.  Exceptionally few have been foreclosed.  Keep in mind that these figures do not include investor-owned properties.  When the banks finally begin to take action against the owners (in the not-too-distant future), prices will really plunge.

New York is going to get crushed. Las Vegas was on the extreme of what happens when foreclosures and liquidations get out of control. New York is on the extreme of what happens if you don’t foreclose on anyone and allow them all to squat.

California – The Current Option ARM Delinquency Rate

These were the most dangerous of all the nonprime mortgages issued during the bubble years.  They enabled those living in bubble areas to afford the soaring home prices.  More than 40% of all these mortgages were originated in California.  This map shows the high very delinquency rate in nearly all California counties.  The delinquency rates would be much higher if the banks had not put nearly 30% into mortgage modifications.  Together with interest only mortgages, they became known as Alt A loans.  There are still nearly $300 billion of these mortgages outstanding.  When the banks finally act on these delinquent loans — either foreclosing them or allowing a short sale — this is very bad news for the California housing market.

Many if not most of these loans have already defaulted. The true shadow inventory of delinquent mortgages not yet served notice is populated with toxic loans from the housing bubble. The wave of foreclosures these delinquencies should have created have instead been stored in the reservoir known as shadow inventory. Lenders are slowly draining this reservoir, and they will continue to do so for many years to come. Just as engineers create flood control reservoirs to regulate stormwater flows, lenders have created shadow inventory to regulate the flow of REOs onto the MLS.

Re-Default Rate for Modified Mortgages

Nearly 17 million mortgage modifications and other so-called workout plans have been put in place since the end of 2007.  Because they become “current” loans and are no longer considered delinquent, this has caused the delinquency rate to be much lower than what they would have been.  This chart shows how more than half of all modified loans in non-Agency mortgage-backed securities (MBS) have re-defaulted.  The banks will have to either foreclose on them or put them up for a short sale.

Loan modifications are simply can-kicking. They serve the banks two ways. First, it gets a few more payments out of non-performing loans. Any income is better than none at all. Second, it delays the ultimate loss recognition and postpones the liquidation date to a time when they may lose less and there is not such a large backlog. In other words, it smooths the flow of bad loans into the shadow inventory reservoir and further assists regulating the liquidations.

Growth of All-Cash Home Purchasing

This graph from Morgan Stanley shows all-cash purchases in 10 major metros as a percentage of the three main types of sales – REOs, short sales, and non-distressed sales.  The percentage was fairly flat until the collapse of the housing bubble in 2007.  Then the percentage of purchases that were all-cash sales began to rise sharply.  You can see that the greatest percentage increase in all-cash transactions was for REO sales.  But the percentage of cash buying for non-distressed sales rose sharply also.

Whenever there is a credit crunch, the loan financing dries up, and cash sales become far more common. When prices get low enough, cash buyers step up in large numbers because the cap rates on these properties become an attractive investment. That’s why billions of dollars is flowing into the REO-to-rental space right now.

Declining home prices have decimated the trade-up market and buying with a mortgage as well.  This trend continues and the trade-up market will not return.

The move-up market will be dead for quite some time. An entire generation has lost their equity for a move-up. This is one market segment I am still bearish on.

Phoenix – Percentage of Home Sales That Are REOs

Pundits point to Phoenix to support their case that the housing market has bottomed.  This chart shows the plunge in the percentage of homes sold in the Phoenix metro since the spring of 2009 which were repossessed homes.  Early in 2009, in the midst of the credit crisis, 2/3 of all properties sold there were repossessed homes.  Then the banks sharply curtailed their sale of REOs.  Yet even a year ago, nearly 40% of all homes sold were foreclosures.  Since then, banks have slowed the number of REOs on the active MLS to a mere trickle.  This has artificially pushed up the median price and fooled analysts into believing that the worst is over.  It’s not.

There is no question the restriction of inventory is voluntary and artificial. I am shocked that lenders pulled it off. But is it sustainable? Only time will tell. At this point, there is so much private equity money ready to buy in these markets that even if REOs were to increase, there is significant demand at the low end to absorb them.

Continued Decline of Home Prices Throughout New England


Year-to-Date (January Through July 2012)

Location Avg. Price Per Square Foot Change from 2011
Entire State $194 down 7.5%
Fairfield County $297 down 7.9%
City of Hartford $82 down 4.6%
City of New Britain $76 down 19%
City of Stamford $251 down 2.9%
Shelton $143 down 11.2%
New Canaan $394 down 8.3%
Redding $187 down 12.2%
Stratford $145 down 7.3%
Madison $206 down 11.6%
Framingham $169 down 3.7%
Worcester $109 down 2.9%
Rhode Island
Warwick $123 down 5.6%
Pawtucket $99 down 14.5%
New Hampshire
Nashua $116 down 5.4%
Concord $106 down 3.5%

Source:  Wm. Raveis & Co. – raveis.com

This table is very important.  It shows the year-over-year decline in average price-per-square-foot for single-family homes sold in four New England states.  This is the best way to compare home prices over time.  These are actual, raw figures, not an index like Case-Shiller.  Prices are still dropping in just about every town/city in Connecticut.  This is the real housing market.  The pundits can’t spin these figures.

In future writings, I will show how this is occurring in other major metros around the country.

Keith is right. The Northeast is getting whacked, and it will continue to do so. While the rest of the country enjoys a modest recovery, the Northeast will “inexplicably” continue to decline. Of course, we all know the reason is because they delayed their foreclosures, but the general public will continue to be mislead by a clueless media regurgitating NAr spin. I am bullish on low-end properties in the West. When it comes to move-up properties in the Northeast… not so much.