Banks & Foreclosures: Rational Actors or . . .

. . . Foot-Dragging Ostriches?

Just a heard a very thorough -- and harrowing -- overview of the foreclosure picture nationally from Rick Sharga, a senior executive at RealtyTrac.

His company compiles one of the most complete databases tracking foreclosures, so he's speaking from authority.

What does he see?

--The housing mess is going to persist longer than is currently projected, because rising unemployment is exacerbating the problems with dubious mortgages -- especially Option-ARM's -- originated when the housing market was flying high.

Think of it as two rivers merging into a mega-river.

So when does he expect to sound the "all-clear," signifying a return to "normal" housing market conditions?

Not before 2012, and perhaps 2013 (no, not a typo).

--Peel back all the confusing statistics, short-term noise, etc. and the current foreclosure numbers are staggering.

According to Sharga, prior to 2009, there's never been a month where the number of foreclosure notices exceeded 300,000. Just so far in 2009, there have already been seven such months.

--Conventional wisdom is that every 6-10 job losses result in one foreclosure. However, because there's typically a 3-6 month lag, there are lots more foreclosures in the "pipeline."

Foreclosure Pain: 4 More Years

More gloomy news:

--Foreclosure pain has metastasized, spreading from places like Southern California, Florida and Arizona to previously unaffected places like Portland, Boise, and the northern Virginia suburbs.

--A combination of logistical delays, federal intervention, and the banks' self-interest are keeping many would-be foreclosures off the market -- for now.

According to Sharga, a bank that forecloses on a home can expect to incur $100 a day managing it, paying the utilities, taxes, etc. That comes to about $36k a year.

Now assume that the bank originally lent the homeowner $600k, and that the home is currently only worth $300k. When the home sells in foreclosure, the bank stands to lose more than 8x its annual carrying charge.

What initially looks like ostrich-like behavior on the banks' part suddenly seem quite rational!

3 Keys to 2010 Housing Market

Which Way the "Move-up Market?"

I'm working on my 2010 letter to clients now, but here's a quick preview -- following are 3 factors that I think are key to next year's housing market (p.s.: if you want a copy of the letter in December, instead of February when I'll post it on this blog, send me an email at rosskaplan@edinarealty.com. If you bought or sold a house through me in the last few years, you're already on my mailing list):

One. Fate of the "move-up" market, or, "as the move-up market goes, so goes 2010 housing."

Thanks to the $8,000 tax credit for first-time home buyers -- plus cheap foreclosures dumped on the market by banks -- entry-level housing has been strong virtually all year. Perhaps too strong.

Just ask prospective Buyers and their Realtors what the choices are like below $200k in nicer areas of the Twin Cities right now.

Strength only at the bottom of the market doesn't make for a strong market, though.

So, everyone's looking for evidence that the higher rungs of the market will "join the party."

Other Shoes Dropping?

Two. Given how instrumental the $8,000 tax credit has been, there is a bit of a "waiting for the other shoe to drop" quality to the housing market at the moment.

Namely, everyone's waiting to see if demand tanks once the incentive(s) disappear. (That is, assuming that they do; there's rampant speculation that the tax credit will be extended in one form or another.)

However, assuming Nov. 30 really is it, there's some evidence that things will transition just fine: at least some Realtors are reporting that their clients are postponing their home searches till after Nov. 30.

Their logic?

Artificially-spiked demand is driving up entry-level home prices more than the $8,000 tax credit is going to save them.

Three. The other "other shoe" is a much-rumored second wave of bank foreclosures.

In particular, millions of so-called "option-ARM mortgages" (pay what you feel like -- at least for awhile) are due to re-set nationally in 2010.

The good news for the Twin Cities: these loans never became as popular here as they did in places like Southern FL, Southern CA, and Las Vegas.

The bad news: a continuing, lousy economy -- and in particular, high unemployment -- is hurting many other homeowners who got more conservative mortgages.

"Is it Spring Yet?"

Calling the Bottom -- One Market at a Time

Asking whether "the housing market has bottomed yet?" strikes me a little like asking, "is it Spring yet?"

The answer depends on where you are.

So, it's certainly Spring in the middle of the U.S. Meanwhile, at least this week in the Twin Cities, it certainly doesn't feel like Spring is at hand (all that daylight sure helps, though). And in the southern hemisphere, it is Fall that's approaching, not Spring.

Fall in Manhattan

The real estate equivalent of the southern hemisphere is Manhattan. After remaining blissfully immune from national trends since . . forever, New York City hit the wall during the first quarter of 2009; preliminary reports are that sales are down 60% for that period ("Not Just a Bad Dream; The New York Times, 3/27/09).

Locally, things are decidedly mixed.

The neighborhoods with the highest concentrations of foreclosures still appear to be sliding (although sale volume is picking up).

At the other extreme, moderately priced, closer-in neighborhoods definitely seem to be stabilizing, if not strengthening.

Like Spring in the U.S., the housing bottom is likely to arrive in the Twin Cities in a spreading wave.

"Pride of Renter-ship"??

Renting vs. Buying: How Interchangeable?

Carla Zeineh, 22, and her husband recently began shopping for a home in Irvine, Calif., and discovered that with a 5% mortgage rate, her monthly payment on a $350,000 two-bedroom home with 20% down could be less than the $1,800 month that they pay in rent on their two-bedroom condo.

Nick Timiraos, "Renters Lose Edge on Homeowners"; The Wall Street Journal (2/25/09)

Besides figuring out how to save the financial system, the other Holy Grail at the moment seems to be calling the bottom in the housing market.

In turn, that has unleashed a search for various "metric's" -- or valuation yardsticks -- that will accurately identify when housing is truly cheap, and therefore likely to stop falling.

So once again the cost of owning vs. renting is back in the limelight -- this time, with commentators noting that the pendulum has swung back towards owning. (In fact, owning has traditionally been more expensive than renting, but in a growing number of markets, the premium is now much smaller.)

It's certainly good news -- to prospective Buyers, if not prospective Sellers -- that housing is more affordable. However, underlying the owning-renting comparison is the flawed assumption that renting is a close, if not perfect substitute, for owning.

In economic-speak, rice and potatoes are close substitutes; apples and oranges are, well . . . apples and oranges.

I'd argue that renting a two bedroom apartment vs. owning a two bedroom home -- the example cited in the Journal article quoted above -- is more like comparing apples and oranges, for two reasons. (Note: for purposes of this post, "condo" means "owned, "apartment" means "rented" -- both are multi-family housing.)

Pride of Renter-ship??

One. Different housing stock.

I work with clients looking for small, single family homes, as well as clients looking for condo's. However, I seldom work with clients looking for both at the same time.

Single family homes have more privacy, no shared walls, and -- if they're located in the Midwest -- a yard and a garage. Because of zoning laws (everywhere except Houston), the single family house is located in a lower density neighborhood surrounded by other single family homes.

By contrast, the condo is likely on a busier street, clustered with other higher-density housing.

Cutting the other way are such factors as convenience and upkeep; condo's offer more of the former, and require less of the latter. It's also true that higher density locations offer better proximity to public transportation, stores, and restaurants.

Two. Different profiles.

Of course, the difference between owning and renting extends to more than just choice of housing stock.

Renters tend to be more short-term oriented, financially less well-established, and, especially today, more risk-averse.

It can also be the case, particularly in the Midwest, that owners -- at least until recently -- enjoy subtly higher social status than renters (they're certainly treated better by the tax code!). Just as it's said that no one ever washed a rental car, few renters invest the kind of TLC in their rental space that owners lavish on their homes.

For all these reasons, the decision to own vs. rent is a more qualitative one that goes beyond simple economics.

Which is not to say that economics are irrelevant.

In my (Realtor's) experience, whether renters decide to become Buyers likely depends much more on their individual economic prospects -- and their expectations of future housing prices -- than housing's cost relative to renting.

Housing: How Much Further to Fall?

Why People Hate Wall Street --
And Wall Street Analysts, too

When stocks are going up, the airwaves are full of Wall Street analysts and other pundits chock-full of stock picks sure to make you money.

So what can you expect to hear after stocks plummet 50% or more?

All the reasons why stocks "are still historically expensive and have further -- much, much further -- to fall," notwithstanding their sickening plunge to date (call this phenomenon "prediction by extrapolation").

Thanks a lot.

Analysts' housing predictions have been much the same.

To be fair, Barron's Alan Abelson, who cites the charts above, has been bearish on housing all along. In his most recent column, "Double Trouble," Abelson makes the scary point that, despite the housing market's chilling fall to date, it still is well above historical trend lines.

Playing Devil's Advocate

Setting aside the counter-arguments for another post (See, "Waiting for Cheap Housing . . . Since 1997"), what if Abelson's right?

Should every prospective Buyer simply wait it out in a rental, until prices are more appealing? Should every growing family squeezed into a too-small house or apartment make do for another 5,6,7 years -- or longer, according to some bears -- until housing prices return to their long-term trend line?

There are more variations on this theme, but you get the idea.

Unless you: a) believe the prognosticators (always a dubious proposition); and b) are very patient, you're better off making housing decisions based on your current life situation, finances, and job opportunities.

My investing background and Realtor experience tell me that no one -- not Robert Shiller, not Nouriel Roubini, not Warren Buffett -- has a crystal ball accurately telling them what housing prices will be next year -- let alone 5 or 10 years from now.

To quote another investing guru, Peter Lynch, "If you spend 13 minutes per year trying to predict the economy, you have wasted 10 minutes."

Substitute "the housing market" for "the economy," and you'll have it about right . . .