Inventory in Southern California is still growing:

Source:  MLS

Now this growth in the MLS inventory is only in the subset of properties that the public can see.  The bulk of properties are sitting hidden in bank balance sheets and are part of the shadow inventory.  I wanted to show you how big of a difference this discrepancy can become when you include these additional properties:

Source:  MLS, MBA

The above chart is looking at MLS and MBA data for the entire state.  For Southern California, the actual breakdown of distressed properties looks like this:

The above chart is probably one of the most telling in regards to where things stand today.  Over 140,000 properties in Southern California have at least a notice of default, are scheduled for auction, or are now bank owned.  The amount of these properties that show up on the MLS is sparse.  We are seeing virtually a 2 to 1 ratio here.  For every one property on the MLS we will likely find two properties being distressed.  In mid-tier areas, it is higher as we will show.

Let us run an experiment to test this out.  We’ve covered Culver City and Pasadena many times in the past so let us use those two areas here again.

MLS Pasadena

Total Listed:                        678

Short sales:                         71

Foreclosures:                     44

Total distressed:               115

Foreclosure Data Pasadena

NODs:                   225

Scheduled for Auction or Bank Owned:                 400

Total distressed:                               625

For Pasadena, for every one listed foreclosure or short sale, you can be assured that there are 5 other properties sitting in the depths of a bank balance sheet.  Keep in mind this is for a highly desirable area.  But if you look at the data closely it wouldn’t appear that way:

Let us run this data now for Culver City:

MLS Culver City

Total Listed:                        148

Short sales:                         25

Foreclosures:                     7

Total distressed:               32

Foreclosure Data Culver City

NODs:                   74

Scheduled for Auction or Bank Owned:                 98

Total distressed:                               172

Well what do you know?  It turns out that the numbers look nearly the same in Culver City.  For every one distressed property on the MLS, you have 5 others hidden in some bank balance sheet.  Now when I look at this data what I see is a façade in Southern California real estate.  Prices in these areas are still extremely high relative to household incomes.  Unless you go out there and buy with an Alt-A or option ARM (no longer available) you will have to show a decent income.  But let us dig deeper a bit.  How much are those foreclosures selling for in Culver City versus what is off the balance sheet?

This is incredibly important.  Banks are listing (what appears) the bottom barrel homes here.  The average listed foreclosure price for Culver City is $330,000.  This is interesting given the median sale price for Culver City in zip code 90230 is $605,000 and in 90232 is $775,000.  Seems like a tiny bit of a discrepancy don’t you think?

I decided to jump deep into the data for this area and pulled up 19 bank owned homes in the area.  This is where you actually see bank behavior stand out.  The “estimated value” of the 19 bank owned homes in Culver City are $443,281 and the average estimated loan balance on each place is $552,159.  These places are massively underwater yet banks seen to be cherry picking which homes they funnel out to the MLS.  So right now you see a trickle at the bottom end but make no mistake, the bigger suckers are only a few months away and are already falling massively behind on payments.  Banks are basically trying to avoid facing the music and realizing the reality that these properties are overpriced (people can’t even keep up with their payments).  Does any of this data look like a healthy market?

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HUD is seeking public comments for the next 30 days on the below:

Source:  HUD

Now some of you might be thinking why we are asking these basic questions three years deep into the housing implosion.  The first question focuses on the credit score of borrowers.  Can you believe that a 580 credit score will enter you into the “flagship” 3.5 percent down payment FHA insured loan program?  No wonder why defaults are off the charts.  No bank in their right mind would lend their own money so banks are basically using the government as their lender and sucker of last resort to continue to make these financially troubling loans.  The second point relates to seller concessions.  Yes, this stuff is still going on.  Serious reform apparently doesn’t involve basic common sense.  Finally, the third point focuses on tighter underwriting.  If we are asking these questions today from an agency that now insures approximately 4 out of every 10 loans we have some major issues coming down the pipeline.

Bank of America released their second quarter earnings report and you can see how poorly FHA insured loans are doing:

BofA saw a jump from $7.5 billion in Q2 of 2009 to $22.5 billion in their 30+ day late delinquent FHA loans.  This is nearly a 200 percent increase in one year.  Now how is this happening?  Well refer to the questions that are being asked from the agency overseeing FHA.  Did we not learn that a low down payment is a recipe for disaster?  It is also the case that a low down payment inflates housing values because it takes away the focus from actually saving money and going into massive debt instead.  What if you had to save 10 percent as a minimum to buy a home?  Think people would be willing to walk away from a property so quickly?  Plus, having a down payment creates a buffer.  I seem to be one of the few that think a good sized down payment is necessary in protecting us from future asset bubbles.  As you can see from the BofA chart above, the FHA is now in a big mess and this came about with income verified and documented underwriting.  But if you don’t correct the bigger issues, then what use is it?

The government will not voluntarily tighten standards on mortgages because the only lender right now is the government.  And even with these ridiculously low down payment programs, the demand for housing is waning because the economy is in a major funk.  A house can cost $100,000 but without a job, it might as well cost $1 million.

Deed-in -ieu of foreclosure

Banks are catching on that people are willing to stay rent free in homes for 12 to 24 months in some cases.  At first, this might have made sense with a handful of borrowers but the flood is now growing.  Banks realize that losing 12 to 24 months of mortgage payments might not be a good idea.  So some are now going after the deed-in-lieu (DIL) of foreclosure option.  Why would they do this?

I think there are a few reasons for the DIL of foreclosure option now being explored more carefully by banks.  For some areas, banks may realize that spring and summer (clock is ticking) may be the prime time to put some properties back on the market.  After all, we don’t know where interest rates will be next year and it already seems that the government is going to have to tighten lending standards more given massive defaults.  So banks would rather get a property back, ignore going after the borrower, and simply get the home back ASAP so they can put it back on the market while the government mortgage liquor is still flowing.  We don’t have clear data on this but I will venture that banks are only going the DIL of foreclosure path on select properties in more targeted markets.  How many DIL of foreclosures did banks pursue in Detroit?

Some are arguing that this has more to do with HAFA:

“(WaPo) To qualify for a HAFA short sale or deed-in-lieu, the mortgage must be for a borrower’s principal residence; the loan balance may not be more than $729,750; the borrower must have incurred some hardship such as a medical emergency or a drastic reduction in income; the loan must have closed before Jan. 1, 2009, and first-mortgage payments (including property taxes, insurance and mandatory homeowners or condo fees) must be more than 31 percent of current gross household income.

For a deed-in-lieu arrangement, borrowers must also be able to deliver clear and marketable title to the home, free and clear of all liens or encumbrances and leave the home in “broom clean” condition. Homeowners are given a minimum of 30 days to vacate the home from the date the short-sale agreement expires or the date of the deed-in-lieu agreement.”

I’m not sure I agree with this assessment.  I think the bigger motivating factor is the amount of money being lost by strategic defaulters and the prospect of taking a property back and selling it in the current market while government cheese is still flowing out of politicians’ pockets like mozzarella.  Next year it might be a very different picture.

Neglect and pay a fine

Another issue that might light a fire under banks to move shadow inventory is fines for neglected properties.  L.A. launched an effort to fine banks that don’t maintain foreclosed properties.  The biggest landlord today is the banking system with the entire shadow inventory out in the market:

“(LA Times) A dilapidated South Los Angeles home with tall weeds, a fallen fence, broken windows and graffiti was chosen to serve as the backdrop for a news conference Saturday as city officials announced the launch of new efforts to clean up foreclosed properties.

The beige stucco bungalow on West 77th Street is a neighborhood eyesore, playing host to drunken transients and stray animals and reeking of urine and feces, neighbors said.

“A lot of vacant homes have become a nuisance in the neighborhood because of the foreclosure crisis,” said Betty Steele, one of several community activists who canvassed the 77th Street neighborhood encouraging residents to report problem properties via the city’s 311 hotline. “And the banks should be held accountable for cleaning them up.”

As local governments hurt for money while the Federal government is off bailing out Wall Street, cities are going to try to get their funds from somewhere.  We are starting to see some of this trickle out into the market.  While all this is happening, a large number of Americans now have little faith in Social Security:

Source:  USA Today, Gallup

60 percent of non-retired adults believe Social Security won’t be able to pay them a benefit when they retire.  Ultimately people get that the party has ended and major changes need to be done.  But the choices we have aren’t pretty and very few politicians have the backbone to make the changes happen especially in an election year.  So what will happen?  We’ll have more public comment on things that should have already taken place (the public is very clear on the bailouts by the way) and more bread and circus for everyone.

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Today we salute Culver City with our Real City of Genius.

A Condo Will Do

The substitution effect is taking charge in Culver City.  We need to look at June sales to see the trend:

Source:  MLS

In June Culver City had 11 homes sell but at the same time 22 condos were sold.  Before someone tries to say that all cities operate like this, take a look at Diamond Bar (31 homes sold and 25 condos sold).  So why the big divergence?  Well for one, the median price of homes sold in Culver City for both zip codes were $605,000 and $775,000.  At the same time, the median condo price was $330,000.  There are two markets within one city here.

The shift in the makeup of sales has caused the median square foot price to plummet:

Source:  Redfin

The cost is falling because the shift in real estate sales for Culver City is being dominated by condos.  Home sellers are still holding out for insane bubble like prices and the amount of homes selling is falling.  That is why inventory for Culver City is now at a high not seen since 2008:

Source:  Redfin

What exactly is happening here?  I think Culver City is one of those markets that can draw a large number of people that one would call “aspirationals.”  You know what I’m talking about; these are the people that registered their iPhone cell numbers out in the 310 while living in an apartment or go to fancy restaurants and simply order off the appetizer menu.  Since owning has a strong pull even after the market implosion we have seen in California, many are willing to skip owning a home and substituting it with a condo.  At current prices, you have a good amount of people willing to pay and given easy FHA insured financing, buying a condo or townhome isn’t so tough.

I find this trend incredibly fascinating because it signifies a tipping point in the market.  People are starting to pull back on buying the incredibly expensive homes thus home inventory is up while buying up the condos at a much brisker pace.

Let us break down the current market:

MLS listed inventory

Condo/townhomes        -              97

Single family homes        -              63

We have 4.4 months of condo/townhome inventory and 5.7 months of single family home inventory.  We shouldn’t forget about the shadow inventory here.  173 homes are listed as distressed properties with the bulk not making it to the MLS.  Of the distressed data we have:

63 single family homes

88 condos and townhomes

The other properties are a mix of commercial, multi-unit, and land.  But you can see that we still have a large number of homes sitting in the back for an area like Culver City.  If we want to understand why condos are dominating sales we should probably look at the income data for the city:

Source:  Census

The median household income is $70,568 with an average household income of $86,694.  The current median home price for single family homes just doesn’t compute with current income data.  To purchase the current median priced home a family would need an income of $200,000 or more per year.  Only 6.8% of the entire area can go for that level of price.  And what does $885,000 buy you in Culver City?

This is a 4 bedrooms and 3.4 baths home.  It is listed at 3,377 square feet so it is certainly a good sized home.  Yet does this look like an $885,000 home?  It has been listed on the MLS for 428 days and has a sale pending.  People are still willing to buy in these markets but again, the bulk of the sales are coming from lower priced units.  This is similar to what happened in lower priced markets back before they tipped over.  You see expensive units stall and sit idle while inventory builds up and lower priced units move.  You can’t stop the momentum unless incomes double overnight.  What other markets are seeing a big jump in condo sales?

Today we salute you Culver City with our Real City of Genius Award.

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I wanted to closely examine the Los Angeles County market and see what is going on with high level distressed property.  Let us first look at zip codes with median sales prices of $1 million or more:

309 homes were sold in the above zip codes.  This doesn’t mean 309 homes sold with a price tag of more than a million.  Take for example Hermosa Beach.  The median is $1 million meaning half of the homes sold above that price and half sold below it.  The above however gives us a good sense of what is happening out in the market.  We know at the very lower end, that at least 154 homes sold in L.A. County for $1 million or more last month.  But look at the price changes listed above.  Many of the cities have seen drastic cuts in their median price.  For example, the famous 90210 zip code has seen a median price drop of 31 percent.  The most dramatic is Malibu with a 64 percent price drop.  These markets are highly volatile (look at Marina Del Rey with a 68 percent year over year price increase).

The idea that there is little trouble in the high priced market is absolutely incorrect.  In fact, we are seeing a lot of properties entering into problems.  The wealthy have more money by definition but many also bought into the housing propaganda and over paid for homes:

In total there are 1,947 homes in L.A. County valued at one million dollars or more with at least 3 missed payments all the way up to being bank owned.  If these homes were valued at higher prices, you would expect that the owner would simply sell the home and take whatever equity remains and move on with their life.  Yet that is where the conflict arises because many of these homes are massively underwater like millions of other Americans.  Unlike most Americans facing housing trouble, these homes can be underwater in the millions of dollars.  It would appear that many of the rich were only rich in their ability to access debt to purchase the property and lease the European make of car.  A large number of them really lived a life of all hat and no cattle.

1 in 7 homeowners with a loan in excess of one million dollars is now seriously delinquent.  This is compared to 1 in 12 for mortgage values of fewer than one million dollars.  The assumption would be that those working class and middle class Americans would have a harder time paying their mortgage in these economically challenging times.  Yet as it turns out the zip code rich on a per capita basis have more trouble paying their mortgage than the majority of Americans (or better put, have more means to selectively not pay their mortgage).  In L.A. County appearances can be absolutely deceptive.  Let us look at total MLS inventory and compare it to million dollar listings:

14 homes out of 100 are priced at $1 million or more in the county.  This is really where you still see evidence that California in many areas is still showing signs of a housing bubble.  In order to purchase a $1 million dollar home, you would need a substantial income.  Let us assume you buy at this price range with 20 percent down:

Home price:                       $1 million

Down payment:               $200,000

Mortgage:                           $800,000

PITI:                               $6,097 (30 year fixed 6.5% jumbo loan)

As a good rule, you should not take a loan out that exceeds 3 times your annual gross household income.  So for this purchase, a household would need to bring in at least $266,500 a year.  This is the lower end.  Here is where the bubble is evident.  Only 7 percent of L.A. County households make $200,000 a year or more (so those that make $266,000 or more is less).  Yet current MLS listings show 14 percent of all inventory priced over $1 million!  And you wonder why housing is still in a funk.

Let us look at a direct example in the glitzy 90210 Beverly Hills zip code:

The above is a bank owned home that is currently listed for sale for $4,575,000.  It is a 6 bedrooms and 4 baths home in a very exclusive neighborhood.  That by itself does not seclude this home from jumping into the toxic mortgage world that engulfed the region for years.  The home was taken over in late March but has been listed for 160 days.  Let us look at the actual note history:

Washington Mutual made a loan back in 2007 for close to $3 million on this place.  Not even a year later, a second mortgage was secured on the property for $1 million.  All it took was another year and in 2009 the notice of default was filed in June.  Three months later it was scheduled for auction.  Even though it is listed as bank owned it is showing up as being postponed due to mutual agreement.  This is probably why the home is up for sale for the current price.  How many people do you think are ready to shell out $4.5 million in this market?  Whoever is selling this home is trying to have a safe exit in the worst housing market since the Great Depression.

When I look at the data it is amazing how many of these homes are secured with Alt-A and option ARM products.  Banks are hoping and praying the market will turn around but they are fooling each other.  Many of the people that bought these places never were wealthy enough to own the home.  Sure, their incomes were higher than the average but it is another level to afford a million dollar loan.  Apparently the “rich” strategically default as well and have deep housing problems like millions of Americans.  Still think it is a wise idea to push home buying for everyone before we patch up these massive kinds of loopholes?  Keep in mind tax dollars are going to bailing out these owners indirectly by funneling money to the banks that made these absurd loans.  After all, even the rich need a bailout to keep the Jacuzzi running.

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There is a flip side to housing values falling which seems to be ignored since most of the mainstream rhetoric is guided by the FIRE (finance, insurance, and real estate) experts.  The most obvious benefit is those looking to buy their first home don’t need to put themselves into so much debt that they risk their entire financial future for a home.  The next subtle change is the amount of money diverted from housing related spending to other sectors of the economy.  This last change will take time to sink into the overall economy but there is definitely a benefit of moving away from an economy highly dependent on Wall Street finance and real estate.

If we look at the current nationwide situation, the amount of distressed loans is stunning:

I think that the above disaster in distressed mortgages is causing very little reaction because we have somehow adapted to the current shocking situation.  Over 10 percent of all U.S. mortgages are at least one payment behind and another 4 percent are already in the process of foreclosure.  This figure is incredible given the entire mortgage market is made up of over 51 million active mortgages.  In 2007 if you were to tell someone that prices in California would fall by 50 percent (even 10 percent) many would have ignored you.  Now, it is standard practice for the market.

As a country we are much too reliant on real estate.  Commercial real estate is the next tragic saga in the RE bubble bursting with prices already falling by 42 percent.  At one point, CRE values in the U.S. were up to $6.5 trillion (now this was a rough generous estimate at the time).  Today, CRE values are down closer to $3 to $3.5 trillion; this is roughly the same amount of CRE loans outstanding.  This has pushed defaults through the roof:

The exponential rise is cause for serious concern.  There is little energy or political will to bailout the enormous CRE market.  This probably won’t stop the Federal Reserve and U.S. Treasury to game the system yet again and put taxpayers on the hook.  They created this massive monster and now want the public to fight it off with pitchforks.  The above chart is disturbing and the amount of bank failures we are seeing is directly related to the above trend.  Many smaller banks are deep in the trenches with CRE debt and much of this is now going bad.  How many strip malls do we really need?  Maybe having 20 Taco Bells in a one mile radius probably isn’t such a good idea.  Many of the commercial projects were built in the anticipation of sky high residential prices to justify their absurd underwriting expectations.  The above results have no excuse and are largely a reflection of massive delusional speculation in all things real estate.

Now that expectations are coming more into line and the fantasy world of Alt-A, subprime, and option ARM loans are behind us, most people have to qualify to get a loan with actual real income which many are now finding less of.  Banks lending virtually all government money, are now beholden to stricter (aka basic due diligence) in order to give out loans.  Yet if we look at the negative equity situation, the real estate monster grows scarier:

Over 20 million mortgage holders are underwater.  It is amazing that a few years ago, Deutsche Bank estimated that at the ultimate trough of the housing market, nearly half of all mortgages would be underwater.  This “doomsday” scenario seemed extremely farfetched.  Today, another 10 percent nationwide price decline would put us there.  Even without prices declining further, having 20 million Americans underwater is not a good sign going forward.  You figure over 7 million people are one payment behind or in foreclosure.  But what about the other 13 million?  This enormous group is basically a large cohort of renters but in a worse financial situation.  They are stuck.

In this market, renters are treated as second class citizens although they make up a large part of the market:

1 out of 3 people in the U.S rent their place of residence.  In states like California the number is closer to 1 out of 2 (some counties have more renters than owners).  Yet there has been little discussion about this market.  There have been programs to defer or even help in paying for mortgages of those who lost their jobs but what about those who rent and lost their jobs?  Who are we helping here really?  If anything, this is a transfer of wealth to banks since many of these people will lose their home anyway.  I’d be curious to see a breakdown of the “official” 15 million unemployed and their housing status.  Trying to keep housing prices at levels that were clearly unsustainable is bad policy going forward and is partly a large reason why the economy is still muddling through.

Most of the parts of this real estate Frankenstein show up in a few common states:

Nearly half of all the latest foreclosure filings came from four states.  The concentration of toxic mortgages in these states and also, the massive jump in prices is still hurting the market years after the bubble burst.  With the employment market weak and anemic, there is little reason to believe (or even hope for) higher housing prices.  This actually hurts those who will buy in the future and commits a large portion of their income to housing moving forward.  This also means they have little money to spend in other areas of this consumer based economy.  So this idea that we need to keep feeding housing is really a preoccupation and obsession that comes from the FIRE economy.  These bad habits are hard to change and so far, little has been done to change this.  Normally it takes drastic circumstances to change people’s behavior.  You would think that the deepest recession since the Great Depression would do that but it hasn’t.  People realize what needs to be done merely by intuition yet we have no Pecora to move the political wheels forward.  The deep capture of our government to Wall Street is stunning.  And because of this, we have a massive real estate Frankenstein walking around our country bumping into taxpayer dollars at every turn of the corner.

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