Shadow inventory double whammy in 2011?

Foreclosures, pent-up sellers to drive market, loan liquidations

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Foreclosures, pent-up sellers to drive market, loan liquidations

Tom Kelly
Inman News™

As much as the housing industry wishes foreclosures would go away -- or at least be reduced to a predictable, manageable flow -- there are no signs of that happening in the near future.

The volume of foreclosures also has hidden the nation's shadow inventory, which I will define as the homes that sellers would put on the market if there were not so much competition.

(Some analysts also apply the term "shadow inventory" to estimates of the total number of distressed properties that will ultimately complete the foreclosure process to be sold at courthouse auctions or repossessed by lenders. Others define shadow inventory more narrowly as homes that lenders have already repossessed, but not yet put up for sale.)

Together, the stubborn reality of foreclosures and shadow inventory combine to be the elephant in the room, and the most important real estate story of 2010.

Perhaps they are more like "The Man Who Came to Dinner." That's the story about a man who slipped on a doorstep and ended up overstaying his welcome for weeks.

After more than two years of hoping to see a bottom to the housing market, the number of foreclosures continues to rise with no real end in sight. As that trend persists, it holds back the number of houses placed on the market that owners would like to sell. The combination is getting worse.

We don't really want to talk about it, preferring to seek the silver lining. It's human nature.

Yes, all real estate is local, and in Washington state, some Puget Sound neighborhoods have retained their desirability. There are particular streets, particular homes that seem to draw buyer interest at the rumor of a for-sale sign. However, those places are few and far between and are absolutely exceptions to the norm.

According to Seattle-based Zillow, an online real estate marketplace, nearly one-quarter, or 23.2 percent, of single-family homeowners with mortgages were underwater on their mortgage in the third quarter -- the highest percentage since Zillow began tracking negative equity in 2009. The percentage rose from 22.5 percent in the second quarter.

As many as four out of five single-family homeowners with mortgages were "underwater" (owed more than the house is worth) in the third quarter. Las Vegas had the highest percentage, with 80.2 percent in negative equity, followed by Phoenix with 68.4 percent. In total, 11 markets tracked by Zillow had negative equity above 50 percent.

"The high percentage of homeowners in negative equity continues to be troubling," said Stan Humphries, Zillow's chief economist. "It represents a huge number of people who are not only more vulnerable to foreclosure, but who are essentially trapped in their current homes and are prevented from selling and buying a new home. This has profound implications for future demand and will be a millstone around the neck of the housing market."

Humphries' view is shared by a number of analysts and economists, including Stewart Title's chief economist Ted Jones.

"It's going to be tricky when to name any sort of rebound," Jones said. "When the market does come back, we'll be in for some starts and stops. That's because of the false bottom as a result of the pent-up sellers. Once they feel things are getting better, we'll get a flood of homes from all those people who wanted to sell but couldn't."

What has been frustrating is that recent positive indicators have turned south. Markets that showed signs of stabilization in previous quarters faltered, with home values flattening or becoming negative in cities like Boston and Denver. In five California markets, home values began to fall again in the third quarter after five consecutive quarters of increases.

Credit rating agency Standard & Poor's, which conducted one of the few known national surveys on residential shadow inventory, reported that those increases had to do with the slow rate in which lenders were doling out foreclosed properties.

Standard & Poor's analysts defined shadow inventory as properties that were 90 days or more delinquent on mortgage payments, in foreclosure, or real-estate owned (REO), but not yet hit the market.

"Overall, it is our opinion that recent positive housing reports should not be construed as a sign that the distress in the residential housing market is abating, but rather should be attributed to the temporarily limited supply of homes on the market," Standard & Poor's analysts said.

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