Housing Is Moving Towards Disaster

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by: John Lounsbury

It may seem to lack self-consistency, but foreclosures and pending sales both increased in the third quarter. In the face of this seemingly conflicted data, the Mortgage Bankers Association has come out with an optimistic forecast of significantly higher home sales quantities for 2010. All of these numbers do come together to paint a consistent picture. The only problem is that the picture is one of possible devastation.

Foreclosures

RealtyTrac® (realtytrac.com), the leading online marketplace for foreclosure properties, today released its U.S. Foreclosure Market Report™ for Q3 2009. The third quarter had an increase in foreclosure filings of 5% over the second quarter (and 19% over the third quarter of 2008) to a total of 937,840. According to RealtyTrac, foreclosure filings include default notices, scheduled auctions and bank repossessions. Read the RealtyTrac press release here.

For those who like straws to grasp at, the September foreclosure filings were down 4% from the August number. July and August are the two months with the largest number of foreclosure filings on record.

For those who want to question whether RealtyTrac can count straight, consider this. They report that the September foreclosure number of 343,638 was less than the other two months of the quarter. Multiply 3 x 343,638 and you get a total of 1,030,614. If July and August were both larger than September, then the quarter would have totaled more than 1,030,614 foreclosures, yet they reported almost 100,000 less. We assume that these folks can count better than that and there is a typo somewhere in the press release.

Bank repossessions, or REO actions, increased by 21% from the second quarter to the third quarter. REO is the acronym for Real Estate Owned. There is a big backlog of pending REO actions and the jump in the third quarter may indicate that banks are starting to work into that backlog.

California, Florida, Arizona, Nevada, Illinois and Michigan accounted for 62 percent of the nation’s total foreclosure activity in the third quarter, with Nevada having the highest rate, followed by Arizona and California. One in 23 housing units in Nevada received a foreclosure filing in the third quarter.

Only six states had less than one foreclosure filing per thousand housing units. The lowest rate was in Vermont (1 in 5,023), followed by North Dakota (1 in 2,724) and West Virginia (1 in 1,549). The other three states were Montana, Wyoming and Nebraska.

The high numbers of foreclosures may create serious problem for home sales inventories, which have been shrinking for several months. The existing home sales plus the new home sales for the most recent months has been averaging around 525,000. The data just announced shows nearly 350,000 foreclosure actions per month. That leaves only about 175,000 sales left for new and non-foreclosure existing homes. Since foreclosed home sales have been reported to be running in the range of 30-40% of all sales, the implication is that, as many of these foreclosures move into REO status they will be added to inventory and not sold.

Pending Sales

The NAR (National Association of Realtors) has reported the seventh consecutive month of increased pending home sales. This is the longest streak in the eight year history of the index. The index level for September is just below the level recorded in March 2007.

Not all pending sales are actually closing within expected time frames, according to Lawrence Yun, Chief Economist for the NAR. “The rise in pending home sales shows buyers are returning to the market and signing contracts, but deals are not necessarily closing because of long delays related to short sales, and issues regarding complex new appraisal rules,” he said

Plain speak? Issues regarding appraisal rules can be translated into failures to get mortgage financing. If that is the case, many such pending sales will never close. Anecdotally, I have been advised by one real estate speculator that they have signed seven contracts this year and all have been abandoned without closing.

In a previous article (here), it was reported that in 2008, nearly 1/3 of all mortgage applications were denied. It is likely that number would be the same or larger in 2009.

The NAR reveals only a pending sale index, so a direct comparison of the number of pending sales to the number of closings is not possible.

Increased Sales Numbers Predicted for 2010

Jay Brinkman, Chief Economist fro the Mortgage Bankers Association, speaking at the organization's annual meeting, had some bold predictions this week (here). He said that sales of existing homes will increase 11% in number in 2010 over 2009 and new homes will see an increase of 21%.

Hope springs eternal. But even if hope is fulfilled, these increases in numbers of sales over current levels will be between 55,000 and 60,000 units per month. Add this to the current total around 525,000 and you have 585,000 sales per month tops in 2010. Using the current foreclosure rate around 350,000 per month, the foreclosure rate is still well above 50% of the sales rate. These numbers imply (1) a sales rate for homes not being sold out of foreclosure of only 235,000 per month or (2) a some of the foreclosed homes will add to the unsold inventory. This will not make for a recovery in residential real estate in 2010, and home builders in many areas may not survive another year at these levels.

Summary

This discussion hasn't even addressed the possibility that the foreclosure rate may increase as we go forward. It is possible that foreclosure rates could keep climbing for another year, as some have predicted, or even longer. What happens if the foreclosure rate approaches the sales rate? What happens if foreclosures outnumber sales? I'm glad I don't plan to move soon.

What could happen to avoid this disaster? Here is a list:

  1. Employment picks up significantly over the next 6-9 months, starting now.
  2. The estimates for 2010 sales increases are way too conservative (like by a factor of 3 or 4).
  3. The numbers of foreclosures start declining significantly starting with the current quarter (fourth quarter).

Actually, the list is cumulative. All of these things would have to happen or the housing market will be dismal.