Foreclosures: The Next Wave is Coming

From the Washington Post, New Round of Foreclosures Threatens Housing Market:

The housing market is facing swelling ranks of homeowners who are seriously delinquent but have yet to lose their homes, and this is threatening a new wave of foreclosures that could hit just as the real estate market has begun to stabilize.

About 5 million to 7 million properties are potentially eligible for foreclosure but have not yet been repossessed and put up for sale. Some economists project it could take nearly three years before all these homes have been put on the market and purchased by new owners. And the number of pending foreclosures could grow much bigger over the coming year as more distressed borrowers become delinquent and then, if they can’t obtain mortgage relief, wade through the foreclosure process, which often takes more than a year to complete.

This is what we call “shadow inventory.” This shadow inventory will take years to work through, and as this growing backlog of inventory hits the market, housing prices will naturally fall.

The following is a graphic of the percentage of homeowners who are seriously delinquent on their mortgage. As you can see, serious delinquencies are still rising.

Rising Repossessions

The rate at which J.P. Morgan Chase seized properties, for example, peaked in the middle of 2008 and fell steadily last year, according to a February investor report. But the bank expects repossessions to increase this year, nearly doubling to 45,000 by the fourth quarter.

“Some of the positive housing data may not be signaling a true turning point, as many servicers are holding back on foreclosures and the related houses are not yet being offered for sale,” said Diane Westerback, a managing director at Standard & Poor’s. Westerback said it could take 33 months to clear the backlog.

Repossessions are likely to rise in 2010, after a lull in 2009, due to the expiration of temporary government stop-gap measures. The lackluster response to massive government stimulus shows that the housing market will be unable to experience organic growth once stimulus is removed.

It’s Prime Time

Today’s delinquent borrowers, for the most part, differ in a key regard from those who were caught up in the surge of defaults in 2008. That earlier wave, which precipitated the financial crisis, consisted largely of subprime borrowers who defaulted when their risky loans became unaffordable.

The borrowers in trouble now are, for the most part, people who have better credit and safer loans and have become delinquent because they’ve lost their jobs or are dealing with other economic setbacks, economists said. More than 75 percent of the borrowers who are now seriously delinquent — meaning they have missed at least three monthly payments — have traditional prime loans, according to First American CoreLogic. Most of these borrowers have not made a mortgage payment in six months.

These borrowers are among the most difficult to help. Homeowners with economic troubles such as extended unemployment often cannot make even reduced mortgage payments. And the longer borrowers stay delinquent, the more difficult it is to fashion a mortgage relief plan for them.

The rising delinquencies amongst prime borrowers shows why jobs are central to any economic recovery. It’s just common sense, but sustainable home price appreciation is only possible with income growth. Unfortunately, we real wages have been stagnant for decades.

The biggest misconception about housing is that it is a great investment in the long run. Most people would probably be shocked if I told them home prices appreciated an average of 0.2% in real terms from 1900-2000. At best, homes are a hedge against inflation.

There is really no solution to the housing crisis other than simply allowing prices to fall. Yes this will be painful for Baby Boomers who have no savings to speak of besides the equity in their homes, but the alternative of massive inflation is far worse for everyone. Let’s just hope the government doesn’t interfere too much with the foreclosures coming down the pipeline so that there can be some genuine price discovery in housing.

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