Do banks sense a change in the California housing market? California foreclosure starts up 57 percent last month. Typical California foreclosure process lasts nearly one year and the misconception of middle class.
It is common knowledge that banks have metered troubled real estate inventory out into the market in a slow drip fashion. This practice over the years has caused an artificially low supply to be present in the market. Add into the mix a low rate environment and years of investors buying up properties and you get our current stalemate of a market. Virtually no one in the press with a voice is even expressing a possibility that prices may sway lower. The only options making the rounds involve a couple of scenarios where prices will go up slowly in 2014 or prices will move sideways. No option for a decrease. This lack of perspective is odd given the resurgence of interest only loans and the fact that a well known bank is dipping back into the subprime market. One surprising statistic that I did see was the resurgence of foreclosure starts in California.
Why the sudden jump in foreclosure starts?
I fully agree with readers that we are dealing with a pseudo-market here. How is it feasible to have double-digit price increases, low supply, and then last month a surge in foreclosure starts of 57 percent? You would expect that in a market with rising prices that this would be a sign of underlying economic health. This isn’t exactly the case given that a large portion of purchases are coming from hot money rather than individual families signing on to purchase with conventional 30-year fixed rate mortgage. This isn’t only the case in California but nationwide. The latest monthly sales figures show that 32 percent of purchases came from buyers using no traditional mortgage product (aka investors).
Many readers sent this chart over from RealtyTrac and even mentioned it in a previous post but it is worth analyzing here:
After 17 months of consecutive annual decreases we see foreclosure starts up by 57 percent in January. It is interesting that banks suddenly decided to move on the foreclosure process this year. Given the timeline of foreclosures this is perfect timing to unload homes late in spring or early in summer:
A foreclosure start merely means the bank is starting the process with a notice of default. As you can see from the timeline above, the process can take four months if the bank is really motivated to unload. This hasn’t been the case in California so it makes you wonder why the sudden surge in foreclosure starts. In fact the average time to foreclose in California is 322 days:
What is interesting is that you will see that banks are getting quicker at selling distressed inventory. This makes sense given the massive jump in prices in 2013. This jump does highlight that yes, banks do have some shadow inventory available but probably not as much as you would expect from back in 2008 and 2009. It also reflects that you still have a good number of California homeowners in trouble with their mortgages.
Underwater in California
It is hard to believe but we still have a large number of Californians underwater in spite of the massive jump in prices in 2013:
16 percent of California homeowners are underwater. Throw in those with less than 10 percent equity and you have over 20 percent of the market at or near negative equity. That is a large pool of the market. Given the jump in foreclosure starts, you still have a good number of delinquent homeowners. Banks are now moving probably because they are acting rationally and want to lock in some gains by selling to investors or highly leveraged buyers. 2013 was a damn good year. A smart gambler knows when to walk away.
I know some think income is irrelevant in the current housing market but long-term this does matter. For example, let us look at a couple of zip codes in Burbank:
Median Price: $625,000 (up 42% year-over-year)
Median Price: $566,000 (up 25% year-over-year)
Median Price: $788,000 (up 35.8% year-over-year)
Or take a look at Compton for example:
Median Price: $230,000 (up 24.3% year-over-year)
Does any of this seem rational or more like a mania? I also believe that foreclosure starts are up because millions of Californians are living precariously close to the financial edge. Leased cars, massive mortgages, big student debt, and living high on the hog.
People seem to get frustrated especially when six-figures doesn’t do much when starring at a $600,000 fixer-upper to move into. They may have $120,000 saved up ready to bounce yet don’t pull the trigger because logic tugs at their practical side. Because a 10 or 20 percent move down is very possible (we saw prices in California move up 20 to 30 percent in some markets last year!). Well there goes that down payment if this happens. So it does pay to run the numbers and of course incomes matter. The doctor making $1 million a year is probably not sweating buying that beach front condo. Yet this is a small portion of the market. And even in this case, income does matter in the sense that overall monthly outlays are tiny in proportion to what is coming in. The reason this is a tough decision is because housing is so expensive in California, even in non-prime areas.
Middle class in California
Ultimately the middle class is being squeezed out. This isn’t to start some insane conspiracy debate, it is merely facts and is not only happening in California but nationwide. People change definitions all the time. If we mean “middle class” as is dictated by the English language, we mean the middle of where half of the families make more and half make less. This figure is easy to find for California:
Source: US Census
The median income in California is $58,000. We don’t get many comments from people going into bidding wars for homes in Compton, Pacomia, or Lynwood – this wasn’t the case in 2005, 2006, or 2007 either yet prices are up everywhere. The same target markets are on the list once again yet someone is bidding these areas up. It certainly isn’t the income of local households. 27 percent of households make more than $100,000 which is the absolute minimum to start bidding in select areas. I would actually say you would need $150,000 or more for the more prime areas that blog readers seemed to be focused on. When we go this far, we have 13 percent of California households. Then you throw in the 30 percent of money coming in from investors, low supply, and you can see why we go from boom to bust. Many are now using ARMs to stretch their budgets to the absolute max to get into a home. Yet volume is extremely low because of the few households that can actually compete at this price point and the fact that investors are having a tougher time making out with good buys.
People want a definite answer as to when to buy. It is hard to give an answer to this given the multiple factors to consider. Throw into the mix that this is no free market and that only makes it tougher. Yet those thinking that prices will never drop (again) fail to understand history. Heck, in California we had a few bubbles within our lifetimes yet the sun seems to cause some kind of financial amnesia. People also buy for emotional reasons. Unfortunately the current market has made everyone into a speculator. No one is going to care as much about your financial situation as you do. Do you think the market cares if you take on a $3,000 or $4,000 monthly mortgage for 30 years? I think one good rule of thumb is to try to keep housing costs to one-third or less of your gross income. That is, if you make $10,000 per month (gross) $3,333 should be the higher end of what you spend on housing. Given the Census data, that is speaking to 13 to 20 percent of all California households. Given that every other car on the freeway is a BMW, Audi, Mercedes, Lexus, Acura, or Infiniti something tells me people are up to their eyeballs in debt once again.
One thing is certain and that is the California homeownership has taken a big hit since the bust hit:
To highlight the full circle here, take a look at this:
“(Reuters) – Wells Fargo & Co, the largest U.S. mortgage lender, is tiptoeing back into subprime home loans again.
The bank is looking for opportunities to stem its revenue decline as overall mortgage lending volume plunges. It believes it has worked through enough of its crisis-era mortgage problems, particularly with U.S. home loan agencies, to be comfortable extending credit to some borrowers with higher credit risks.”
ARMs, interest only loans, jumbo loans, massive investor buying, low inventory, stagnant prices, a surge in foreclosure starts, and now subprime loans. Sure sounds like all is great on the housing front!