Early 2010 signaled a recovery in jobs and an overall improvement in the overall United States economy. Many pundits believe 2009 represented the rock bottom for everything from real estate to the stock market. If that is the case, why do foreclosures continue to rise?
Foreclosures: Lagging Economic Indicator
The major reason foreclosures continue to rise while the economy improves is because foreclosure are a lagging indicator of economic health. For example, if a homeowner loses their job, they don’t simply default that same day. They use up their savings, then they borrow from friends and family, then make partial payment and finally, they stop paying all together. After that it still takes three to four months to start the foreclosure process. Therefore, the foreclosures that happen today are really a result of the bad economy of six months ago.
Foreclosures and Interest Rates
Interest rates also dampened the foreclosure numbers. Due to record low mortgage rates and unsustainably low Federal Funds rates, consumers that have adjustable rate mortgages have actually seen a decline in their mortgages. Unlike subprime mortgages that adjust to a significantly higher rate after 2+ years, traditional adjustable rate mortgages adjust based on the current interest rate environment. Many consumers maintain the ability to pay their mortgages because rates have actually gone down over the last three to four years. Consumers that received mortgages at 6%+ in 2006 could now be paying 5% or less. These lucky consumers have actually seen their mortgage become more affordable with time and are far less likely to fall into foreclosure.
Foreclosures and Real Estate Prices
As real estate prices level off or even start to show modest increases, the number of strategic walkaways will decline. Many consumers simply see no way to recoup any value from their homes. To these homeowners, it’s very disheartening to struggle to pay a mortgage only to see real estate values in their area decline month after month. Any positive uptick in prices would give them more incentive to continue to pay their mortgage. Walkways tend to have a snowball effect as well. If consumers see less of their neighbors walking away from their homes, they will be less likely to allow their homes to fall into foreclosure if they can continue to pay.
Foreclosures will continue to dominate the media over the next year. As interest rates increase and more homes already on the foreclosure path come to market, expect to see additional homeowners walk away. Additionally, as foreclosures rise, consumers can expect the price of real estate to decline. To date, real estate inventory has remained high in many areas. Expect this trend to continue and perhaps worsen as banks go after more homeowners. Without substantial legislation, which does not appear to be on the horizon, consumers should expect real estate prices to remain depressed.
Michael Cook - Michael Cook is currently a Real Estate Investment Banker for Wachovia. He and his partnerstarted their own real estate investment ...
