While the June numbers show almost 800 homes in some stage of foreclosure… it also shows 147 that are REO. Compare that to Irvine's current inventory of about 440… it becomes interesting.
Why? Because I can't find 147 REOs on Redfin (I only found 6). EDIT: Actually… thanks to USCTrojan, it looks like the number of REOs on the MLS is about 26… much higher than 6 but not 147… so still a significant number.
And let's talk about that 800 number… this chart is also very interesting:
492 days is the time it takes to foreclose? Over a year? And the banks take twice as long to resell a property than a 3rd party (265 to 126)?
Maybe there won't be a shadow inventory tsunami… but there are definitely homes that aren't being paid for and we aren't able to buy.
Last week I wrote about Lambert Ranch, Irvine’s newest development that goes on sale at the end of this month. As I mentioned in that post, the Lambert Ranch developers are departing from a trend in Irvine that has been dominant for some time. This trend is the inclusion of Mello-Roos taxes as part of the purchase of a new home.
That got me wondering what areas in Irvine have homes available without Mello-Roos taxes. The general answer is the older areas in Irvine. But to give you a better idea of where these homes are located, following is a sample of homes in Irvine that are currently on the market that do not have Mello-Roos taxes. They may or may not have HOA fees.
Some housing markets need a tournequet to stop the profuse bleeding of home equity. In the most beaten down markets, prices have overshot fundamentals to the downside. In Monday's post I discussed Another Dumb Idea to Shift Private Mortgage Losses to Taxpayers. Today, I am going to look at a much better proposal for dealing with the reality of millions of foreclosures owned by the US government.
Lisa Marquis Jackson — John Burns Real Estate Consulting
August 28, 2010
While officials were gearing up for the August 17, 2010 meeting on GSE reform, the GSEs were losing millions of dollars every hour. Why? Because home prices are falling again. We have a solution.
Recent Market Changes: When the tax credit expired on April 30, home buying activity slowed 30%+ and hasn't rebounded much while the number of homes for sale has risen. With lower demand and higher supply, it is once again a buyer's market, where sellers are forced to drop price if they want to sell. It will take almost 1 year to sell every home on the market right now! According to our proprietary survey of home builders across the country, new home prices nationwide have dropped 3% since the tax credit expiration, with declines in 9 of 10 regions, and we are seeing similar signs in the resale market. Falling home prices hurt almost everyone, especially Fannie Mae and Freddie Mac and the taxpayers that are now backing them.
Falling prices do not hurt buyers who want to see lower prices, but lower prices certainly do harm banks and now the US taxpayer who is backing the housing market.
DC Trip: This month, we spent time in Washington D.C. informing HUD, Treasury, Fed, Fannie Mae and Freddie Mac officials of what was going on. While most were not surprised about the price declines after we laid out the facts, we were pleasantly surprised at how much traction our proposal to help alleviate the problem received.
Proposed Rental Housing Solution: Falling home prices don't help anyone, and anyone who says we can let the free market take care of things is saying that it is ok for taxpayers and the banking system to lose many more billions of dollars, virtually assuring another recession and maybe worse.
Falling home prices do help sidelined buyers, and yes, it is okay for taxpayers and the banking system to lose billions of dollars. I don't think anyone really gives a crap about the banks, and if the taxpayers lose money perhaps those in charge that made taxpayers liable for losses they shouldn't be covering will be punished. Probably won't happen, but Ms. Jackson needs to recognize that not everyone shares her view that lower prices are the root of all evil.
To boost housing demand and limit supply, we propose the following:
1) Create an Apartment REIT: Distressed sales need to be kept off the market. Rent out the Fannie, Freddie and FHA REO (owned properties through foreclosure). These properties currently comprise 42% of the 562,000 REO and a large percentage of the 5.1 million homes currently in the foreclosure pipeline (already 90+ days delinquent or in foreclosure). This is best accomplished by contracting with an outside firm (competitively bid of course) to manage local property management firms. The rental income will be self-sustaining and the properties will be financeable in the public markets, just like publicly traded REITs are financeable. The GSEs will benefit from future price appreciation too, as opposed to being damaged by further price deterioration. The Banks, who currently own 22% of the REO, should also be allowed to contribute properties to the REIT. The Administration can keep pushing for loan mods if they want, and we heard over and over again how government doesn't want to foreclose on people. All we ask is that you keep the distressed sales off the market.
Some form of toxic turd fund as described above is the most likely solution to this problem. Renting a property is a far superior form of asset utilization than long-term squatting. People who are paying neither a mortgage nor rent need to be forced out or converted to rental status. In the post How Gaming Interests Could Save the Las Vegas Housing Market, and Why They Should, I laid out a private market solution that keeps owners in their homes and allows them to buy the property back at a later date. If this rent-to-own feature is added to the above proposal, I think the final piece to the puzzle will be in place. Of course, banks will resist the rent-to-own idea because it will encourage accelerated default, but if the government was really interested in keeping people in their homes they could do that. (Which shows where the government's allegiance is.)
Consider this: any loan requires some steady stream of payments to pay interest and recover the original capital. Since the loan balance is already set by the oversized loan of the bubble, and since the only available income stream is property rent, the GSEs could modify the interest rate on the loan to be as low as necessary to have the rental income stream pay off the loan over a 30-year term. In this fashion, the "loan" could be kept alive on the GSEs balance sheets and the debt can be retired over time by the rental income stream. There is no need to write down the loan balance if they have a steady income stream and if they control the interest rate. The taxpayers would avoid any paper losses backstopping these loans because the capital is preserved.
Once properties go REO, the GSEs can (1) keep the loan alive, (2) pay it down with the rental income from the property, (3) and offer the property to the former owners with an option to repurchase. This allows the GSEs to avoid costly write-downs, keeps people in their homes, and prevents a wave of foreclosures from pounding prices back to the 1990s like they have in Las Vegas. Isn't that what they are trying to accomplish?
2) Loans to Landlords: To stimulate demand and restrict supply on non-GSE distressed sales, have the GSEs make very safe loans to individuals or corporations who will promise to rent them out for an extended period of time. The GSEs should make a tidy profit on these loans, while also helping provide affordable rental housing to those who need it.
Sign me up for 10 of those loans. I want to buy cashflow properties in Las Vegas, keep them off the resale market, and provide an affordable rental. If they want to loan me cheap money to accomplish this, I will take all they want to offer.
3) Keep Mortgage Liquidity Flowing: Housing is extremely affordable right now [except in Coastal California], but the uncertainty in the mortgage industry is making underwriting more challenging, and uncertainty in the economy is hurting buyer confidence. Stop changing the underwriting rules so everyone knows what is required, and keep the fantastic financing environment. Once the economy turns around, real buyers will return to the market.
That is a fallacy. Many people who want to buy real estate will not be eligible to obtain a loan regardless of their income. The rent-to-own solution I outlined above will help alleviate this problem, but to suggest that buyers with good credit and a substantial down payment will suddenly emerge once the economy picks up is wishful thinking. It is a delusion everyone in the industry suffers from, particularly lenders.
We believe that the solutions above will also help restore home buyer confidence that prices won't plunge, which will boost demand.
That is a strong acknowledgement of the deflation physchology that rules the markets; although, I believe qualification standards create more problems then buyer psychology.
GSE Reform: As far as GSE reform goes, the answer is simply to turn back the clock. Fannie Mae was formed in 1938 to create mortgage liquidity, and the GSEs have played a very useful role in preventing another Great Depression, so we still need them. However, the GSEs need to be told ASAP that elected officials are not going to pull the rug out from under them so they can focus on helping manage us through the remainder of this crisis. Turn back the clock to:
1967, which was the last year before Fannie Mae became a publicly traded corporation. It is impossible to serve two masters, and allowing the entities formed to assure mortgage liquidity to have their strategies dictated by shareholders was a grave mistake.
1998, which was the last year before elected officials mandated that Fannie and Freddie grow homeownership by making more aggressive loans to low income households.
You can't go back. That simply isn't going to work. I discussed these issues in Can the GSEs Exist Outside of Government Conservatorship? We need to have a secondary mortgage market because it is the only way banks can manage asset-liability mismatch, but the GSEs are not the only method for maintaining a secondary mortgage market. As they are current structured, there is no way they can exist without the explicit backing of the US government. Any attempt to pretend they don't have this backing will be a joke.
We are sure this will create some controversy, particularly among extremists. I am staying out of the politics and making recommendations that we believe are sound business advice. For those who are running the troubled balance sheet of The United States of America, you need to act quickly to make sure that your asset values don't plunge. Only those who want to see you go bankrupt will oppose these ideas.
Sorry, but there are many reasons to oppose these ideas that are not extremist nor do they require a desire to see the United States go bankrupt. Give me a break.
Despite the occasional hyperbole, the ideas presented are good. If we add in the ability to keep owners in their homes with a rent-to-own arrangement, I think this proposal has real merit. If some solution like this is not implemented, we will see a repeat of the Las Vegas experience in every housing market in the country.
How low are prices in Las Vegas?
When I blather on about Las Vegas properties, people in Orange County can't quite wrap their mind around how much less expensive these properties really are.
The property pictured above is located in Henderson, Nevada. It is a 2000 SF 3/2 built in 2007 in a nice neighborhood. It originally sold for $339,993. The opening bid at auction is $92,605, and comps run about $130,000. It will likely sell for $100,000 to $105,000, and it may go for less than $100,000. That's about $50/SF. It would likely rent for about $1,250 a month. Comparable properties to this one in Irvine would cost $350/SF — seven times as much.
Does it make sense to you that the Orange County premium is that large?
Why Las Vegas prices are so low
What is it about the Las Vegas market that makes prices so low relative to the peak and relative to rents? When bubble bloggers first began describing what would happen when prices collapsed, the narrative when something like this: exploding loan payments would cause massive numbers of foreclosures, and this must-sell inventory would push prices lower because supply would increase and demand would collapse through a combination of deflation psychology and a diminished buyer pool brought about by all the foreclosures. In fact, this is exactly what has occurred in Las Vegas.
In a normal real estate market, properties trade at a discount to rents. Renting carries a premium because renting provides freedom of movement and insulation from liabilities for property maintenance or declining prices. However, if the renting premium becomes too large, renters are enticed by the lower cost of ownership, and many become homeowners in order to save money versus renting. If you look at historically stable housing markets, you will see the premium for renting is evident, and the premium is relatively stable.
Right now in Las Vegas, the premium for renting is very high. A property that costs $1,000 a month to rent can be owned for about $550 a month. So how does the premium get that large? It isn't because of deflation psychology. The entire buyer pool has been poisoned by foreclosure. There literally are not enough potential owner-occupants in the Las Vegas market to absorb the available inventory. Since there is a severe shortage of potential owner-occupant buyers, and no shortage of potential renters with jobs, the rental premium gets pushed to an extreme, and cashflow investors recognize this opportunity and begin buying to obtain great positive cashflow. (Yes, I know unemployment is high, but vacancy is not a problem for Las Vegas properties in nicer neighborhoods).
Think about it: we all knew the home ownership rate was going to decline because of the large number of foreclosures. That means many properties are going to get converted from owner-occupied to renter-occupied. The only way that happens is if prices fall so low that the rental income stream attracts cashflow investors. It doesn't take Nostradamus to see that cashflow investors were going to be called upon to clean up this mess.
This price-to-rent disparity exists in Las Vegas, and it will likely persist for another three to five years before the renter pool is cleared for home ownership through improved credit scores, expired waiting periods, and accumulated down payments. In the interim, cashflow properties will be abundant, and the returns to cashflow investors will be high. It is what it is.
It may seem like I am selling — and I do plan on selling readers these properties — but I am not exaggerating or puffing. I am merely educating readers to an opportunity to profit from the collapse of the housing bubble — an opportunity that hopefully will never occur again in our lifetimes. If you want to take advantage of this opportunity, I will facilitate that for you. If not, I can only lead the horse to water. Go to Las Vegas and see for yourself, or check out the listings on Realtor.com. Condos start at $12,000, less than 10% of what they cost here, and less than most will spend on their next car.
Her own private ATM machine
The married woman who bought this property as her sole and separate property treated it as her own personal ATM machine. If it doesn't cost you anything, and if you can get hundreds of thousands of dollars out of it that you never have to pay back, why not?
The property was purchased on 12/5/2001 for $475,500. The owner used a $468,750 first mortgage and a $6,750 down payment.
On 4/16/2003 she refinanced with a $450,000 first mortgage.
On 5/11/2004 she obtained a $600,000 first mortgage.
On 7/7/2005 she got a HELOC for $106,000.
Total mortgage equity withdrawal is $237,250.
Total property debt was $706,000.
She didn't get to squat long as Wells Fargo foreclosed on her quickly. Surprise, surprise, Wells Fargo did not originate the HELOC that was blown out in the foreclosure, so the process was expedited.
Recording Date: 05/03/2010
Document Type: Notice of Sale
Recording Date: 02/01/2010
Document Type: Notice of Default
She put down $6,750 and withdrew $237,250. Do you think she will want another house? I do.
According to the listing agent, this listing is a bank owned (foreclosed) property.
This property is in backup or contingent offer status.
BANK REPO!!! BEAUTIFUL EXECUTIVE HOME IN GATED 'NORTHPARK'. FRESH INTERIOR TWO TONE PAINT AND NEW CARPET. TILED ENTRY, FORMAL LIVING ROOM WITH PLANTATION SHUTTERS, GUEST BATH WITH PEDESTAL SINK, OPEN AND BRIGHT KITCHEN WITH GRANITE COUNTERTOPS & CENTER ISLAND, SEPARATE FAMILY ROOM WITH FIREPLACE, CEILING FAN AND FRENCH DOOR, SPACIOUS MASTER SUITE WITH WALK-IN CLOSET AND BUILT-INS, DUAL SINK VANITY AND TILED FLOORS IN MASTER BATH, JACK AND JILL BEDROOMS WITH PLANTATION SHUTTERS, UPSTAIRS LAUNDRY ROOM. SUPER MOTIVATED SELLER. SUBMIT!!!
Despite the huge backlog of inventory of both bank-owned properties and shadow inventory, the banks are in no hurry to liquidate. It is classic cartel behavior.
When OPEC first formed, a group of oil producers had an idea: if they all agreed to restrict production, it will drive up prices and make them all rich. When they first put their plan into motion in the 1970s, it worked. The member countries curbed production, and prices went up. Once prices were high, each member country had incentive to cheat to obtain more income at the higher price, so the cartel weakened, and many argue it has little or no power today.
Similarly, the heads of all the major lenders today are like minded: they all agree that processing foreclosures into a weak job market will lower prices and reduce the value of their holdings. They all came to this conclusion in 2008, and during 2008 and 2009, they stopped processing foreclosures and restricted the inventory on the market to keep prices high, and it worked.
As the economy pulls out of this recession, each of the members of the banking cartel will change their opinions about the economy and the market. Some will evaluate their procedures and determine changes are in order, and some will evaluate the amount of inventory they must chew through and determine they better get going or they will own real estate for the next 20 years.
The 2:00 problem
Years ago I attended a seminar where the speaker was Kevin Haggerty, 7-year head of trading at Fidelity Capital Markets. He described what is known as the 2:00 problem.
When mutual fund managers want to buy or sell stock, they call the trading desk and place an order. Since these orders are often very large, it may take quite some time to get their orders filled. Let's say the trader was asked to fill a 100,000 share order, and at 2:00 he has only accumulated 60,000 shares. He informs the head of trading who calls the fund manager. The fund manager has to make a choice: (1) either wait and get the order filled tomorrow, or (2) have the trader fill the order regardless of what it does to the stock price. Filling a large order at the market can cause a major change in price.
The banks have a 2:00 problem… almost. It is only 12:00 in their world. They have only filled a tiny fraction of their original, market-clearing order, and they feel no urgency to fill the order through lowering price… yet.
Two o'clock is coming. When the economy starts to recover, banks will get pressure from regulators and stockholders to clean up the mess on their books. Lenders are not synchronized, and each one will hit 2:00 at a different time. The volume necessary to clear the garbage is simply not going to happen at current price levels. The price-income mismatch makes that impossible. At some point, the pressure to liquidate will force them to impact the market.
Ever since the housing collapse began, market seers have warned of a coming wave of foreclosures that would make the already heightened activity look like a trickle.
The dam would break when moratoriums ended, teaser rates expired, modifications failed and banks finally trained the army of specialists needed to process the volume.
But the flood hasn't happened. The simple reason is that servicers are not initiating or processing foreclosures at the pace they could be.
It really is that simple. I see uninformed shills write that there is no shadow inventory and other nonsense that realtors tell their customers to dupe them into a false sense of security. The fact is that shadow inventory does exist. It is very large, and eventually banks are going to have to liquidate this inventory. This liquidation will be the collapse of a cartel and may not be the orderly flow they are hoping for.
By postponing the date at which they lock in losses, banks and other investors positioned themselves to benefit from the slow mending of the real estate market. But now industry executives are questioning whether delaying foreclosures — a strategy contrary to the industry adage that "the first loss is the best loss" — is about to backfire. With home prices expected to fall as much as 10% further, the refusal to foreclose quickly on and sell distressed homes at inventory-clearing prices may be contributing to the stall of the overall market seen in July sales data. It also may increase the likelihood of more strategic defaults.
I have pointed out on many occasions that lender policy is encouraging strategic defaults.
It is becoming harder to blame legal or logistical bottlenecks, foreclosure analysts said.
"All the excuses have been used up. This is blatant," said Sean O'Toole, CEO of ForeclosureRadar.com, a Discovery Bay, Calif., company that has been documenting the slowdown in Western markets.
Banks have filed fewer notices of default so far this year in California, the nation's biggest real estate market, than they did 2009 or 2008, according to data gathered by the company. Foreclosure default notices are now at their lowest level since the second quarter of 2007, when the percentage of seriously delinquent loans in the state was one-sixth what it is now.
Let that sink in: banks have six times as many delinquent borrowers, but they are foreclosing on less of them. What do they expect to do with all these squatters?
New data from LPS Applied Analytics in Jacksonville, Fla., suggests that the backlog is no longer worsening nationally — but foreclosures are not at the levels needed to clear existing inventory.
The simple explanation is that banks are averse to realizing losses on foreclosures, experts said.
"We can't have 11% of Californians delinquent and so few foreclosures if regulators are actually forcing banks to clean assets off their books," O'Toole said.
Officially, of course, this problem shouldn't exist. Accounting rules mandate that banks set aside reserves covering the full amount of their anticipated losses on nonperforming loans, so sales should do no additional harm to balance sheets.
Within the last two quarters, many companies have even begun taking reserve releases based on more bullish assumptions about the value of distressed properties.
That is mark-to-fantasy accounting. The banks are using bullish assumptions that can't possibly come to pass given the huge inventory that must be liquidated.
Now there is widespread reluctance to test those valuations, an indication that banks either fear they have insufficient or are gambling for a broad housing recovery that experts increasingly say is not coming.
Banks did not choose the strategy on their own.
With the exception of a spike in foreclosure activity that peaked in early-to-mid 2009, after various industry and government moratoriums ended and the Treasury Department released guidelines for the Home Affordable Modification Program, no stage of the process has returned to pre-September 2008 levels. That is when the Treasury unveiled the Troubled Asset Relief Program and promised to help financial institutions avoid liquidating assets at panic-driven prices. The Financial Accounting Standards Board and other authorities followed suit with fair-value dispensations.
These changes made it easier to avoid fire-sale marks — and less attractive to foreclose on bad assets and unload them at market clearing prices. In California, ForeclosureRadar data shows, the volume of foreclosure filings has never returned to the levels they had reached before government intervention gave servicers breathing room.
Some servicing executives acknowledged that stalling on foreclosures will cause worse pain in the future — and that the reckoning may be almost here.
"The industry as a whole got into a panic mode and was worried about all these loans going into foreclosure and driving prices down, so they got all these programs, started Hamp and internal mods and short sales," said John Marecki, vice president of East Coast foreclosure operations for Prommis Solutions, an Atlanta company that provides foreclosure processing services. Until recently, he was senior vice president of default administration at Flagstar Bank in Troy, Mich. "Now they're looking at this, how they held off and they're getting to the point where maybe they made a mistake in that realm."
Did you catch that? That is the beginning of the end for the lending cartel. Once they lose their like-minded action, once some of the cartel members begin to liquidate, prices will fall, and the cartel will crumble.
Moreover, Fannie Mae and Freddie Mac have increased foreclosures in the past two months on borrowers that failed to get permanent loan modifications from the government, according to data from LPS. If the government-sponsored enterprises' share of foreclosures is increasing, that implies foreclosure activity by other market participants is even less robust than the aggregate.
"The math doesn't bode well for what is ultimately going to occur on the real estate market," said Herb Blecher, a vice president at LPS. "You start asking yourself the question when you look at these numbers whether we are fixing the problem or delaying the inevitable."
I am amazed that anyone involved really thought the bailouts and false hopes would actually solve this problem. There was never any chance. Those programs were obviously delaying the inevitable.
Blecher said the increase in foreclosure starts by the GSEs "is nowhere near" what is needed to clear through the shadow inventory of 4.5 million loans that were 90 days delinquent or in foreclosure as of July 31.
LPS nationwide data on foreclosure starts reflects the holdup: Though the GSEs have gotten faster since the first quarter, portfolio and private investors have actually slowed.
"What we're seeing is things are starting to move through the system but the inflows and outflows are not clearing the inventory yet," he said.
I find it surprising that the government is actually leading the collapse of the cartel. Don't be surprised if the GSEs stop their foreclosure activity under pressure from banking interests that would rather see us become Japan than see themselves forced out of business.
Delayed foreclosures might be good news for delinquent borrowers, but it comes at a high price.
Stagnant foreclosures likely contributed to the abysmal July home sales, since banks are putting fewer homes for sale at market-clearing prices.
Moreover, Freddie says a good 14% of homes that are seriously delinquent are vacant. In such circumstances, eventual recovery values rapidly deteriorate.
Defaulted borrowers were spending an average of 469 days in their home after ceasing to make payments as of July 31, so the financial attraction of strategic defaults increases.
One possible way banks are dealing with that last threat is through what O'Toole calls "foreclosure roulette," in which banks maintain a large pool of borrowers in foreclosure but foreclose on a small number at random.
O'Toole said the resulting confusion would make it harder for borrowers to evaluate the costs and benefits of defaulting and fan fears that foreclosure was imminent.
For as cold as Sean's idea is, it would probably be effective. Random violence is an effective method of generating terror, and what Sean is suggesting is that lenders become terrorists.
Is that what this has devolved into? Are lenders going to resort to terrorist tactics to compel people to pay for lender's stupid lending mistakes? Are we going to allow lenders to do this? When will the government act for us rather than for the lenders?
The idea that lenders could and would do this makes me want to see them die.
The cartel in action
I am featuring a property today that demonstrates the macro-economic concept I discussed in the post. I originally featured this property back in January in Foreclosures Ravage Irvine’s High End.
This property was built with a $4,300,000 loan from Fullerton Community Bank. Loans like this inflated high-end pricing, and their absence has created a huge vacuum that no lender is ever going to fill. Evidence of the precarious nature of high end properties is evident with $2,650,000 losses in Irvine real estate.
Back in January, they were asking $4,500,000. A wishing price. They are now down to $4,195,000, and no buyers are to be found. It is 12:00 in their world. They are still in denial. Despite the obvious evidence of long-term weakness in this market, they are holding out for that one buyer who could bail them out. Unfortunately, so are hundreds of other desperate sellers at these price points.
Eventually, it will be 2:00, and they will have to make a decision about liquidation. Either they will mark it way down to sell it, or this may be REO until 2018 when their asking price is market. Which do you think they will chose?
According to the listing agent, this listing is a bank owned (foreclosed) property.
Bank Owned Estate presented in distinctive Andalusian Style, this custom designed and built home artfully balances grand scale spaces with an extraordinary attention to detail. Numerous viewing decks and a courtyard entry pay tribute to Old World traditions, while graceful archways, hand turned balustrads underscore the architectural theme. With 2 of the 5 bedroom suites & an office on main level, this 9600sqft home offers optimal flexibility.Oasis like landscaping with various waterfalls enhance the villa appeal of this magnificent residence. Subterranean soaking pool, sauna, home theatre/game room/ bar and a temperature controled wine cellar with custom racking and table seatings of 8 or more. Optional Elavator.
Kool aid intoxication is an unshakable belief in real estate appreciation. As I wrote in Losing My Religion:
Baptism into the real estate religion is a metaphorical drinking of kool aid. The fundamental belief of this religion is a belief in the "higher power" of market forces — real estate values always go up. Once you accept this fundamental belief, the dogma of real estate can take over. The dogmatic practices of real estate include buying at any price and borrowing any sum you can. Since real estate always goes up, it doesn't matter how much you pay because you can always sell later for more money. Value has no meaning. Also, since you can pay back any borrowed sums when you sell, it doesn't matter how much you borrow or under what terms. Fabricating income on a mortgage application to qualify for a larger loan is perfectly acceptable behavior. Debt is something to be serviced not retired. It is foolish to borrow under terms which pay down a mortgage because equity appears through appreciation. There is no need to build equity through retiring debt. Besides, paying down debt is a slow process, and building equity through appreciation is much faster and requires less sacrifice. The lure of kool aid intoxication is very strong. It appeals to our fantasies of unlimited wealth and spending power.
People who accept religious tenets often face a crisis of faith at some point in their lives. John Spong wrote a book titled "Why Christianity Must Change or Die" in which he devotes a chapter to the Jewish exile to Babylon. It was a cultural crisis of faith where many of the fundamental beliefs of Judaism were challenged. California's religion of real estate is facing a similar crisis. The fundamental belief in endless house price appreciation is being challenged, and all the associated beliefs are similarly being called into question. Right now, most people are still in denial clinging to their faith in the forces of the housing market. Many will come to lament the Day the Market Died, many will continue to cling to Southern California's Cultural Pathology, and many will bargain for a renewal of the The California Social Contract.
Any core religious idea that can be empirically tested will face its ultimate challenge. The collapse of The Great Housing Bubble will prove that real estate values do not always go up, and in fact, real estate values can decline significantly. All of the associated beliefs built on this fundamental premise are equally false. People will be forced to examine the beliefs which guide their purchase decisions and their relationship to debt financing. Like any other crisis of faith, the loss of comforting and secure beliefs is emotionally painful, and the cleansing process will take time. Will kool aid intoxication survive? Probably, but there will be fewer faithful until meaningful appreciation returns and the army of realtors missionaries sets out to convert a new generation.
The article for today's post calls into question some of the basic beliefs Californians have about real estate. Some may lose their religion, but some will decide that despite the obvious contradictions, they still believe.
Housing will eventually recover from its great swoon. But many real estate experts now believe that home ownership will never again yield rewards like those enjoyed in the second half of the 20th century, when houses not only provided shelter but also a plump nest egg.
The wealth generated by housing in those decades, particularly on the coasts, did more than assure the owners a comfortable retirement. It powered the economy, paying for the education of children and grandchildren, keeping the cruise ships and golf courses full and the restaurants humming.
More than likely, that era is gone for good.
I have written on many occasions about Our HELOC Economy. California is built on a foundation of borrowed money. We continually build Ponzi Schemes, and when they collapse and lenders no longer give us money, the entire economy grinds to a halt.
I believe it will take many years for lenders to repeat their mistakes of the bubble. The Ponzi era may not be gone for good, but unless the government starts backing cash-out refinancing and HELOCs, it is gone for the foreseeable future.
Of course, most current California home buyers don't see it that way. They believe HELOC riches are right around the corner, and banks will be willing to finance the profusion of personal Ponzi Schemes Californians are so fond of creating. It isn't going to happen.
“There is no iron law that real estate must appreciate,” said Stan Humphries, chief economist for the real estate site Zillow. “All those theories advanced during the boom about why housing is special — that more people are choosing to spend more on housing, that more people are moving to the coasts, that we were running out of usable land — didn’t hold up.”
The fact that people believed these delusions amazes me. People were choosing to spend more on housing, but that was only because house prices were going up. More people were not moving to the coasts, but the people that were there were taking their home equity and buying multiple properties to create artificial demand. And despite running short of usable land, we have thousands of land deals all over California where the residual land value is negative right now. Each of these fallacies was promoted to the masses by the NAr to create false urgency to enrich realtors.
Instead, Mr. Humphries and other economists say, housing values will only keep up with inflation. A home will return the money an owner puts in each month, but will not multiply the investment.
Dean Baker, co-director of the Center for Economic and Policy Research, estimates that it will take 20 years to recoup the $6 trillion of housing wealth that has been lost since 2005. After adjusting for inflation, values will never catch up.
“People shouldn’t look at a home as a way to make money because it won’t,” Mr. Baker said.
If the long term is grim, the short term is grimmer. Housing experts are bracing themselves for Tuesday, when the sales figures for July will be released. The data is expected to show a drop of as much as 20 percent from last year.
The supply of homes sitting on the market might rise to as much as 12 months, about twice the level of a healthy market. That would push down prices as all those sellers compete to secure a buyer, adding to a slide that has already chopped off as much as 30 percent in home values.
Set against this dismal present and a bleak future, buying a home is a willful act of optimism. That explains why Adam and Allison Lyons are waiting to close on a $417,500 house in Deerfield, Ill.
“We’re trying not to think too far ahead,” said Ms. Lyons, 35, an information technology manager.
The couple’s first venture into real estate came in 2003 when they bought a condo in a 17-unit building under construction in Chicago. By the time they moved in two years later, it was already worth $50,000 more than they had paid. “We were thinking, great!” said Mr. Lyons, 34.
That quick appreciation started them on the same track as their parents, who watched the value of their houses ascend for decades. The real estate crash interrupted that pleasant dream. The couple cannot sell their condo. Unwillingly, they are becoming landlords.
“I don’t think we’re ever going to see the prosperity our parents did, but I don’t think it’s all doom and gloom either,” said Mr. Lyons, a manager at I.B.M. “At some point, you just have to say what the heck and go for it.”
Most people don't think about market conditions when they buy a home. Realistically, people buy and sell because of life's circumstances. This couple was going to buy now regardless of what happened in the market. Their house will decline in value for a while, but if they hold it long enough, they will be hurt less than those who bought from 2004-2008.
Other buyers have grand and even grander expectations.
In an annual survey conducted by the economists Robert J. Shiller and Karl E. Case, hundreds of new owners in four communities — Alameda County near San Francisco, Boston, Orange County south of Los Angeles, and Milwaukee — once again said they believed prices would rise about 10 percent a year for the next decade.
With minor swings in sentiment, the latest results reflect what new buyers always seem to feel. At the boom’s peak in 2005, they said prices would go up. When the market was sliding in 2008, they still said prices would go up.
“People think it’s a law of nature,” said Mr. Shiller, who teaches at Yale.
I am always astonished by how much people think house prices should go up — or even that house prices should go up at all. Do wages go up at 10% per year? Why should house prices go up any faster than wages? How can house prices go up faster than wages on a sustained basis? How are people supposed to pay for houses once it costs 100% or more of their income? Somehow logic seems to elude the average home buyer. Kool aid intoxication is very strong.
For the first half of the 20th century, he said, expectations followed the opposite path. Houses were seen the way cars are now: as a consumer durable that the buyer eventually used up.
The notion of housing as an investment first began to blossom after World War II, when the nesting urges of returning soldiers created a construction boom. Demand was stoked as their bumper crop of children grew up and bought places of their own. The inflation of the 1970s, which increased the value of hard assets, and liberal tax policies both helped make housing a good bet. So did the long decline in mortgage rates from the early 1980s.
Despite all these tailwinds, prices rose modestly for much of the period. Real home prices increased 1.1 percent a year after inflation, according to Mr. Shiller’s research.
By the late 1990s, however, the rate was 4 percent a year. Happy homeowners were taking about $100 billion a year out of their houses, which paid for a lot of good times.
“The experience we had from the late 1970s to the late 1990s was an aberration,” said Barry Ritholtz of the equity research firm Fusion IQ. “People shouldn’t be holding their breath waiting for it to happen again.”
Not everyone views the notion of real appreciation in real estate as a lost cause.
realtors will never accept that real estate appreciation is a lost cause, nor will anyone who likes to use this fallacy to generate false urgency in buyers.
Bob Walters, chief economist of the online mortgage firm Quicken, acknowledges that the recent collapse will create a “mind scar” just as the Great Depression did. But he argues that housing remains unique.
“You have to live somewhere,” he said. “In three or four years, people will resume a normal course, and home values will continue to increase.”
Housing is special. Irvine is different. How many times have we heard that bullshit before?
All homes are different, and some neighborhoods and regions will rebound more quickly. On the other hand, areas where there was intense overbuilding, like Arizona, will be extremely slow to show any sign of renewal.
“It’s entirely likely that markets like Arizona will not recover even in the 15- to 20-year time frame,” said Mr. Humphries of Zillow. “The demand doesn’t exist.”
Wrong. Arizona may not see peak prices for quite some time, but it will recover. Of all the distressed markets out there, Phoenix is one of those most likely to make a comeback. The economy is diverse and the population is growing. I would buy cashflow properties there if I had more contacts. I am more excited about Las Vegas mostly because I have the contacts to get cashflow properties there. The economic story in Phoenix is actually more compelling.
Owners in those foreclosure-plagued areas consider themselves lucky if they are still solvent. But that does not prevent the occasional regret that a life-changing sum of money was so briefly within their grasp.
Robert Austin, a Phoenix lawyer, paid $200,000 for his home in 2000. Five years later, his neighbors listed a similar home for $500,000.
Freedom beckoned. “I thought, when my daughter gets out of school, I can sell the house and buy a boat and sail around the world,” said Mr. Austin, 56.
His home is now worth about what he paid for it. As for that cruise, “it may be a while,” Mr. Austin said. Showing the hopefulness that is apparently innate to homeowners, he added: “But I won’t rule it out forever.”
The fantasies of Mr. Austin are shared by homeowners everywhere. He has been forced to let go of his fantasies whereas Orange County and Irvine home owners are still clinging to theirs.
The contrarian view
I would like to believe that stories like today's reflect a positive and permanent change in buyer attitudes, but there is another way to see it.
… Because now I'm starting to see more articles about how housing is a lousy investment and no one should buy a house. Anyone who's been paying attention knows that this statement is just a wrong as home ownership is always better than renting. Both statements are just flat out wrong. But that doesn't stop the pundits.
One sign of a market bottom is a change in sentiment. When an asset class is strongly out of favor with the investment community is often a great time to purchase it.
I believe we are about to see a leg down in house prices, but what happens after that is a mystery. There are far too many variables to predict. I am planning a future post to look at some of these scenarios and try to assess the probability of each. One possible scenario is that low interest rates persist until the inventory is absorbed, and the leg down we are about to see is the last one. This may not be the most likely scenario, but this winter should be (1) the bottom of the recession, (2) the peak of inventory, and (3) the bottom of buyer demand. When conditions are at their worst is often when markets find a durable bottom. Only time (and interest rates) will tell.
No money in, much money out
Houses were a great trading vehicle during the bubble. Lenders were giving houses to people with no money down, and when values went up, lenders gave people this money as well. With that kind of lender behavior, it isn't surprising that houses were in high demand.
The owner of today's featured property paid $570,000 on 1/9/2004. He used a $456,000 first mortgage, a $114,000 second mortgage, and a $0 down payment.
On 5/8/2006 he refinanced with a $586,000 Option ARM with a 1.25% teaser rate.
On 11/26/2007 Wells Fargo refinanced his first mortgage for $604,000 and gave him a $37,750 HELOC. How stupid is that?
Total property debt is $641,750.
Total mortgage equity withdrawal is $71,750.
Total squatting time was about 14 months.
Recording Date: 11/12/2009
Document Type: Notice of Sale (aka Notice of Trustee's Sale)
Click here to get Foreclosure Report.
Recording Date: 08/10/2009
Document Type: Notice of Default
Wells Fargo bought the property back for $663,586 on 6/10/2010. They will lose about $100K on the deal.
According to the listing agent, this listing is a bank owned (foreclosed) property.
If your client likes sunlight- loves a well lit home- then this is their home. Dozens of windows in this home and house is sunny and bright and cheery. A place to come home to after the end of a day. Upgraded glazed kitchen countertops. Gazebo/patio cover out back to relax. Centrally located near both freeways and near shopping centers. Lushly landscaped for the gardener in you.
Technically, this doesn't deserve the lite-brite graphic, but since the realtor went out of her way to sell sunshine, I thought she still deserved it.