Sizing Up The Shadow Inventory

REQUIRED READING: The housing market is stuck between a rock and a hard place. On one hand, costs are low. In fact, interest rates set a record low in August, and home values are still low in most areas of the country, which improves affordability. Yet, despite low costs, the volume of transactions is at a level not seen in a decade.

The National Association of Realtors, in its May Housing Affordability Index, reported that the combination of a median home sale price of $169,800 and an average interest rate of 4.87% meant that an average family would only have to spend 14% of its income on the average house. Just three years ago, the index indicated that the average family would have to spend more than 18% of its income on the average home.

On the other hand, the sinking values have caused many homeowners to become upside down on their loans, making sales difficult. Add in the complication that due to the fallout from the adjustable-rate and subprime mortgage meltdown of 2008, banks are applying much stricter credit standards to borrowers, limiting the market of available buyers. Some of these stricter standards are a result of regulatory pressure, as well.

The result has been a housing market that must clear out a large inventory of properties that are bank-owned or in some phase of default. This so-called "shadow inventory" of homes creates problems for real estate agents, buyers, sellers, lenders and servicers.

Snapshot of the foreclosure market
In what may be a surprise to many, the foreclosure market has held relatively stable over the past year. The Mortgage Bankers Association's National Delinquency Survey shows that 8.44% of all loans were delinquent in the second quarter – an increase of 12 basis points (bps) from the first quarter and a decrease of 141 bps from one year ago.

Even more surprising is that despite the high number of foreclosure sales and short sales and the emphasis on workouts and modifications, the number of foreclosures is not declining. In fact, the number of outstanding delinquencies has consistently remained around 8% for the past year.

However, there are signs that the tide is finally beginning to reverse.

For example, DataQuick's sales data for Phoenix shows that in July, 49.8% of resales were foreclosure sales, compared to 50.5% in July 2010. This was complemented by a 34% decrease in the number of foreclosures filed in July compared to the same month last year.

And these trends are continuing in other regions. California data indicates that foreclosure filings for the second quarter were down 19.2% from the same period in 2010, and Portland, Ore., reported a 22.8% drop in foreclosures during the first half of the year.

Although the overall increase in foreclosure sales has helped clear out the inventory, these sales have kept overall prices low. In the three aforementioned markets, median prices are still a fraction of their peak value. In Phoenix, the median sales price in July was $120,000, which is more than 50% less than the 2006 peak of $264,000. Even in healthier markets, such as Portland, the current median sale price of $215,000 is 25% lower than that city's 2007 peak of $289,000.

Of course, there are always variations within the market. A couple of years ago, high-end neighborhoods suffered more than lower-priced neighborhoods, because many borrowers had stretched their finances to buy larger homes.

Now, the tide is swinging the other way. Although total home sales fell about 13.7% in the first half of this year, sales in ZIP codes with an average home sale price of $800,000 or more decreased just 2.8% from last year. DataQuick's data shows that nearly 45% of these affluent ZIP codes saw sales rise in the first half of this year compared with 2010.

When a home is too far underwater, even borrowers motivated to keep their home may "give up." Understanding the true value of loans in the portfolio is the first step to managing the inventory of troubled loans.

John Walsh is CEO of San Diego-based DataQuick, which provides property data and analytics, appraisals and non-appraisal evaluations, flood determinations and credit reports, as well as other products and services. Walsh can be reached at jwalsh@dataquick.com.

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