In today’s article I decided to get an accurate picture of shadow inventory for Southern California, a region where over half the state lives.  But first, let us look at the MLS data going back to September of 2007 when I started tracking this information:

In September of 2007 over 160,000 homes were listed on the MLS.  The above chart shows a clear trend of decreasing home inventories at least from this set of data.  Yet this is deceptive because it doesn’t highlight the surge in banks holding off inventory from the market through various moratoriums like HAMP or other state specific programs that were run in California similar to HAMP (big failures as we all know).  As of today, the MLS has roughly 64,000 homes listed for Southern California.  In fact, listing services are talking about this declining inventory:

“NEW YORK, Jan 13 (Reuters) – The number of U.S. homes listed for sale dropped nearly 5 percent in December compared with November, according to data released on Wednesday by real estate brokerage ZipRealty.

The December decline in listings by the Multiple Listing Service was the 18th consecutive monthly drop, according to Emeryville, California-based ZipRealty.

…

“Seasonality and the heavy activity by first-time home buyers in October and November, who were rushing to take advantage of the tax credit, impacted housing inventory in December,” Patrick Lashinsky, ZipRealty president and CEO, said in a statement.”

Now cause and effect is hard to sort out with some data and indeed MLS data has fallen as the chart above demonstrates.  But has inventory really decreased because of improvements in the market?  Certainly the tax credit and lower prices have spurred new home buyers but to say the low inventory is because of a good market is a misconception.  This doesn’t account for the massive increase in shadow inventory for many regions including Southern California.  In fact, if we look at shadow inventory for Southern California we will find over 160,000 properties!  These are homes that either have a notice of default filed (missed at least 3 mortgage payments), are scheduled for auction (the next step from NOD), and are bank owned.  If these homes are not part of current inventory they will be down the line.  Short of the homeowner catching up (which isn’t happening through HAMP) what other options do people have?  Say someone in California has an option ARM, are you going to be happy just converting the loan to say an interest only loan but at the bubble valuation price?  What incentive do you have if the value of the home is now down say 40 or even 50 percent?  Most people still wouldn’t be able to afford the payment which is even a bigger issue in a weak economy.

And the “great” year for Southern California real estate doesn’t look like that if we put the decade into context:

At the peak of the bubble, we were selling over 350,000 homes a year in Southern California.  Last year, a supposedly banner year where over 40 percent of home sales were foreclosure re-sales we sold under 250,000.  This is a drop of nearly 30 percent from the peak sale year.  I’ve also included the average “median” monthly price per year as a reference point as well.  This is simply for a reference point in comparing each year in the decade.  Even with lower prices, we are nowhere close to peak home sales of the bubble years and prices for the region are down over 40 percent.  This in conjunction with many of the Alt-A and option ARMs still lingering in the system.

But let us be more exact with the MLS data:

Non-distress listings:                     45,000+

Distress listings:                               19,200+

For distress listings, we are including short sales and foreclosures (the bulk is short sales).  About 30 percent of all homes listed on the MLS in Southern California fall in the above categories.  For example, 5,200+ homes are listed as foreclosures.  Yet bank owned homes are at 28,000!  That is only one part of what isn’t showing up.  Scheduled auctions?  Over 84,000 homes in Southern California are scheduled for auction.  More homes are scheduled for auction than the entire MLS data.  How many homes have a notice of default filed and are still not to the auction stage?  Over 50,000.  The bottom line is the market is saturated with distressed homes but just because it doesn’t appear in the MLS doesn’t mean it is doing well.

Some have questioned the double counting of the data.  Well, if we remove the 19,200 homes on the MLS listed as distressed, that still leaves us with over 140,000 homes in the shadow inventory data.  Plus, how many other homes have people that have stopped paying and have no notice of default filed?  I’ve received many e-mails and comments from folks living three, six, and even twelve months with no payment and no notice of default.

Part of the problem is the belief that home prices were going to rise to the moon:

Many people now assume that we are back on track to ever increasing prices.  Look at the chart above.  The red line charts the delusional bubble average if it only continued.  The median California home price would now be over $800,000 if we kept on the previous path!  Now, the median price is down to $264,000 for the state.  The median for Southern California is $289,000.  Definitely not close to those previous projections.  And keep in mind that the boost in current sales came at the expense of every possible gimmick.  The Federal Reserve has artificially kept interest rates low.  Only one place to go when you hit the zero bound.  We have implemented every moratorium imaginable in California.  We invented the idea of HAMP early in the bust.  Of course those programs failed.  Banks are hoarding inventory at the expense of taxpayer bailouts.  What good has that brought to our economy except keeping the bankers and Wall Street rich?  Tax credits?  Front loaded sales but we saw a similar drop last month with a cash for clunkers effect.  The only next step is to give everyone a free home.

Both the national median home price and state median price have come down to more realistic levels:

When I say realistic, I mean being able to buy a home without a toxic mortgage.  Yet many areas in Southern California are still overpriced.  Areas like Culver City and Pasadena come to mind.  It isn’t limited to these areas.  We have many cities where you have working professionals making good money but not enough to buy $500,000 or $600,000 homes (even though they think they can buy a home).  These people think low six-figures is enough to buy a home but fail to follow the rule of three.  That is, don’t get a mortgage that is three times your gross household income.  If you make $100,000 you shouldn’t buy a home that costs more than $300,000.  Of course I hear from many in this range yet they want a $1 million home for $300,000 while making $100,000 a year.  Or they have their eyes set on some niche and trendy market.  Following trends via the herd is expensive as we all know.

Southern California has an enormous amount of distressed real estate.  Our economy is in tough shape.  64,000 homes on the MLS versus 160,000+ homes in the shadow inventory.  Over 90 percent of these distressed homes do not cure so that means these will be additional inventory at a certain point in time.  Unless incomes double over night, we can expect housing to be in for a long year.

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The scam with short sales is merely one of the thousands of ways the financial industry is siphoning off money from productive sectors in the economy.  What is occurring is that in many cases, during the housing boom people took out two (even three or four) mortgages on their home.  Since second lien holders have possession of the property as well but in a junior position, they need to agree on the terms to make the short sale occur.  Yet in places like California where the housing market has imploded the second lien, (as we will show with an example in Orange County today) are largely just lost bets.  In other words the second lien holder will likely get zero but may hold up the sale of the property.  However, information is now coming out (surprise, surprise) that the same FIRE employees are working their same magic that led to the bubble:

“(CNBC) In order for a short sale with two loans to happen, the second lien holder has to drop the lien.

If they don’t, and there’s no short sale, the home goes to foreclosure and the first lien holder gets the house because second liens are subordinated debt to the primary loan.

In short, the second lien holder gets nothing. In order to get the second lien holder to drop the lien, the first lien holder generally negotiates some partial payment to the second lien holder. The second lien holder doesn’t have to agree, but more and more are doing so.

That’s all legal.

But here’s what’s not legal and what’s apparently happening quite often recently. Since many second lien holders are getting very little, they are now allegedly requesting money on the side from either real estate agents or the buyers in the short sale. When I say “on the side,” I mean in cash, off the HUD settlement statements, so the first lien holder doesn’t see it.”

Good times.  But of course some would argue that short sales are a tiny part of the market.  In a place like Orange County short sales are a big part of the market that the public can see:

27 percent of all MLS listings in Orange County (of the roughly 8,000 viewable by the public) are made up of short sale listings.  Now knowing what is going on with the industry, you can understand why so many odd deals are happening.  I’ve gotten many e-mails of people putting in bids to homes that suddenly sell to someone else, even at lower prices.  Take a wild guess what is occurring.  That is why the entire financial industry needs to become like a utility.  That is it.  Break up the banks and bring back a new form of Glass-Steagall.  This notion that bankers will somehow go to other countries with financial innovation is nonsense.  When things are booming they are global citizens but when times went bad, they sure know which country will bail them out.  And the insider horse trading with short sales is merely another reason of what is wrong with the financial industry.

The amount of short sales in Orange County is large, almost one-third of the entire MLS market.  But again, this does not factor in the shadow inventory.  Some in Orange County think that they are somehow immune to shadow inventory.  If anything, they have an equally large amount of shadow properties.  Let us run the data for the county:

It is interesting that properties scheduled for auction dwarf the entire MLS public data.  Total shadow inventory is twice the size of the actual MLS data.  In other words, Orange County has many properties pent up in the pipeline.  And here is the thing, those pre-foreclosures are people who have missed at least three housing payments and this number is as large as the entire MLS.  Distress is deep in Orange County as well although like in some areas of Los Angeles people choose to ignore this data.

And Orange County hit the highest peak during the housing bubble in Southern California:

The median price is still down 33 percent from the peak.  And just because prices fell hard doesn’t mean prices are now affordable or make for a good time to buy.  Let us look at two counties that are still in bubbles and two that are not in Southern California:

That is why for those buying in the Inland Empire, prices may make sense.  Prices have corrected sharply.  But saying home prices in L.A. and Orange County are now affordable ignores the entire bubble decade.  And like a narrowing path, some places in these counties are getting prices slammed like Palmdale, Compton, Stanton, and areas of Santa Ana.  But the thing is people have narrow focuses on their tiny prime locations.  Now if we assume the ratios to even out with L.A. and OC prices still have a way to go down.  Interestingly enough both L.A. and OC had similar price gains over the decade; that of 70+ percent far outstripping actual income gains (zero).

Just because your small zip code is still in a bubble doesn’t mean that the overall market isn’t correcting.  And eventually it will correct.  Let us look at a “prime” area in Orange County, that of Ladera Ranch:

Here’s an area with supposedly no bubble and good values on prices.  The MLS lists 101 properties which means only about 2 months of inventory are on the market.  Yet if we include shadow inventory, this number jumps up to 11.5.  You notice the median price?  It currently stands at $632,500.  At one point during the bubble in 2006 and 2007 the median price was up to $1.6 million!

And to show you that even high priced homes can fall let us now look at an example:

The above home has only been on the MLS for 9 days.  The home is a 5 bedroom and 5 baths home and is listed at 5,118 square feet.  This is a nice home.  If prices were holding up in prime areas you would expect this home to hold up as well.  This is a “prime” OC area.  But let us look at some history on the place:

The home sold at the peak in 2006 for $2,200,000 and it looks like the buyers put 20 percent down taking out a $1,760,000 first mortgage.  One year later in 2007, National City Bank decided to give them back that down payment via a second mortgage of $325,000.  Of course, this was right at the point that the market imploded.  The notice of default was filed in May of 2009, auction was scheduled in November of 2009, and now it is bank owned.  So what is the current listing price?

List Price: $1,100,000

A perfect 50 percent discount from the 2006 sale price.  And keep in mind this is a recently listed home.  In this place the first lien holder isn’t even getting their full balance back so the second lien is largely a distraction.  In cram downs, this is what normally happens but instead we have insiders making their own deals with others so even if you put in a competitive bid you have no idea if some deal was already made.

So is Orange County in a bubble?  Absolutely.  Just like L.A. is but OC will artificially look higher because they don’t have zip codes like those in Palmdale or Compton where home prices are now in the five digit range.  So clearly this drags the median down.  Yet the overall math is similar.  A large hidden amount of shadow inventory while prices in prime areas remain stubbornly high but prices are coming down.  If things were back to the good days why isn’t the above home selling for $2.2 million like it did back in 2006?  Some people in California still have a hard time understanding why 2010 is still a poor time to buy a home.

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The California housing market for 2010 is going to deal with the heavy flow of Alt-A and option ARM products hitting in conjunction with prime mortgages that are no longer able to remain current in this troubled economy.  Let us first define shadow inventory at least how we perceive it.  Some narrowly define shadow inventory as REO properties that are not on the MLS.  This definition is wrong and too limited because it misses the bigger piece of the pie.  That piece includes homes scheduled for auction and homes with a notice of default filed (NOD) that have yet to make it onto the MLS.  Some argue that these homes are not shadow inventory because there is a chance they will become current and have no need of being on the MLS for sale.  This is misguided because only 3 to 5 percent of these mortgages will be cured so the bulk will eventually end up as foreclosures and will get on the MLS at some point.  This is what we can measure.  Yet I would also argue that there is another layer of homes that are currently 90+ days late that have no NOD filed and these are also part of the shadow inventory.

I painstakingly over a few days pulled data on all 269 zip codes for Los Angeles County to get a better picture of what is really going on.  Data was pulled from a variety of sources including the MLS, foreclosure filings, and DataQuick to name a few.  Putting this together gives us a fascinating picture:

Here is the real story.  The purple column is the MLS viewable data by the public.  According to this data L.A. County as of the start of 2010 has approximately 19,400 homes.  In November 6,257 homes sold in the county.  This gives us some 3 months of inventory (a healthy amount).  Yet that is probably where the normalcy ends.  Let us go through each column.  First, we have more homes in pre-foreclosure than the entire MLS data.  These are homes that now have a notice of default filed.  Next, we have homes that have an auction scheduled.  These homes are deeper in the foreclosure process.  This number is enormous and by itself is almost twice the size of the MLS data.  Next, we have bank owned homes that is usually what some look at when they define shadow inventory.  It becomes clear why some like to skew the data.  Banks are lagging and when you only look at REOs, then it doesn’t look so bad.  Yet this assumption falsely sits with the notion that the NOD and auction column are somehow going to miraculously cure with some programs like HAMP.  Yet the data on HAMP is proving otherwise with roughly 4 percent of trial modifications becoming permanent.  Add the shadow data columns up and you get a hidden inventory that is nearly 3 times the MLS data.  The difference is 3 months of inventory versus nearly 14 months of inventory.

What does this mean?  There is a tremendous amount of property in distress.  Until this calms down the market is going to remain highly volatile.  I also wanted to look at which zip codes had the largest number of shadow inventory in relation to the MLS data.  As you would expect, more troubled areas have a larger number of shadow inventory but you’ll be surprised how many zip codes have more shadow inventory than MLS data:

Now this data is fascinating.  Let us dig around the data to help explain what is going on.  First, you’ll notice that the top 10 shadow inventory zip codes all fall around $300,000 except for one area.  This would be expected since many of these areas are the most troubled.  Let us use one of the examples above with Pacoima.  Pacoima on the MLS has 118 properties listed.  In the latest month of data 62 homes sold.  So to the public, this looks like a city with less than 2 months of inventory, a very healthy market.  Yet if we add up the shadow data a very different picture emerges:

NOD (318) + Auction (630) + REO (148) = 1,096 shadow inventory properties

Add in the shadow data with the MLS data and you go from below 2 months of inventory to a whopping 19.5 months of inventory.  This is why this is so crucial.  It is the difference in a relatively healthy market and a very unhealthy one.

As I mentioned before, I pulled data on all 269 zip codes in Los Angeles County.  I wanted to get a better sense how dispersed shadow inventory really was.  Some want to paint a picture that only poor areas are subject to large amounts of hidden inventory.  That is not the case:

Out of 269 zip codes only 26 zip codes had less shadow inventory than what was appearing on the MLS.  206 zip codes actually have shadow inventory that is twice the size of the publicly viewable MLS data.  Even more troubling 75 zip codes have shadow inventory that is five times the MLS data.  This data is compelling enough to make you pause because what is being presented is not the entire picture.

Let us get a better picture of L.A. County by pulling up demographic information:

In L.A. County 1.178 million homes have a mortgage.  Over 350,000 have no mortgage.  Of those with a mortgage over 400,000 are underwater.  This shows us a market that is in high distress.  Simply looking at the MLS data and going by what the banks are telling us is really giving you a distorted picture of reality.  The market is saturated with distress inventory to the point of overflowing the above charts.  Over 90,000 homes with a mortgage are now 90+ days late.  And here is where we jump even deeper into the rabbit hole.  Of active distress properties (NOD + scheduled auction) we get roughly 60,000 homes.  We’ll leave out the nearly 9,000 REOs since these are now fully categorized as “foreclosed” and are owned by the bank.  So you have another 30,000 homes in L.A. County that are 90+ days late but have no notice of default filed.  What is going on here?  It could be that it is still early in the process.  But what is more likely is that banks are simply stalling out the process.  Unfortunately we do not have access to this data since this is where banks keep their Enron style accounting statements.

If you add the entire potential data:

90+ days late but not NOD + NOD filed + Auction Scheduled + REO = Approximately 100,000 homes

Los Angeles County has roughly 100,000 homes as part of the shadow inventory.  This is an enormous number given that the MLS only lists 19,400 homes.  In other words, the potential pool of properties in the county is five times as large as the public is currently seeing.  And these are properties that are in distress.  At the very minimum this is a borrower that has missed three mortgage payments.  The likelihood of future foreclosure is extremely high.  How many of these homes are Alt-A or option ARM connected?  Hard to say but we can easily estimate that the vast majority of the shadow inventory that is also part of the Alt-A and option ARM circle is virtually assured to default.

Some areas seem to have very little shadow inventory but it is in the area where the fewest people live:

Now as you will notice the median price of all these areas is solidly above the $1 million mark.  But even here, you’ll notice the large amount of inventory.  A place like Beverly Hills with the iconic 90210 zip code has over 28 months of inventory if we also include the shadow data.  But this isn’t uncommon in high priced areas.

Now it would be cumbersome to show all 269 zip codes here but given that I have covered Culver City, Pasadena, and Santa Monica in the past I’m sure many of you would like to see that data:

The same patterns play out in these areas.  Factoring in the shadow inventory the data takes a different shape.  There are many factors that are going to determine where housing will head in 2010 but the above is rather clear.  Shadow inventory is large in L.A. County and I would imagine an analysis of many other counties would yield similar results.

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Here in California shadow inventory is massive.  It is likely that we have the same amount of inventory in the shadows as we do in the actual public MLS.  The way home values are derived come from recent local area sales.  Bank owned homes sell for much less so banks are holding off inventory trying to allow the artificial supply to juice prices so they can release inventory onto the market later creating a mini bubble.  The only reason banks can even do this is because of the crony banking laws and the fact that they have trillions in taxpayer bailout money.  The irony of course is that it is a win-win for banks.  They can hold off and sell homes at an inflated price with taxpayer money to taxpayers thus taking them for a ride twice.  At a certain point you wonder if the public will keep on taking this since lower priced homes will make more sense in this climate with high unemployment and lower wages.

The good news is the shadow inventory issue has gone mainstream:

Source:  L.A. Times

“A supply of 1.7 million homes headed for sale because of foreclosure or delinquency looms over the nation’s housing market, which could dampen progress toward recovery should the Obama administration fail in its efforts to aid struggling homeowners, researchers said.”

It is also hard to see what lurks in the shadows when banks have effectively issued a foreclosure holiday:

“Some lenders have declared limited foreclosure moratoriums this year to give troubled borrowers time to catch up on their payments or work out other solutions. Those announcements continued Thursday: Mortgage titans Fannie Mae and Freddie Mac said they would suspend foreclosure evictions from Saturday to Jan. 3, and Citigroup Inc. said it would suspend some foreclosures and evictions from today to Jan. 17.”

That is certainly a nice holiday gesture by Fannie Mae and Freddie Mac but what does pausing the foreclosure process do for someone with no job?  And isn’t that really the problem here?  If incomes and our economy were healthy not many would be concerned about housing prices.  The problem is how we’ve dealt with this crisis.  Everything centered on housing because that is where crony Wall Street had placed its massive bets.  We had equity injections into banks.  Then we nationalized Fannie Mae and Freddie Mac.  When that didn’t work, we started with moratoriums.  Basically this was the “allow the scab to dry” fix to the housing market.  That still didn’t stunt the tsunami of foreclosures.  Then banks straight out allowed people to stay in their homes without them making payments.  The government then stepped in and issued the HAMP initiative.  With this, the government basically decided to give people option ARM lite loans for their problems.  And people are still stunned why foreclosures are near their peak:

9 consecutive months with foreclosure filings over 300,000.  Yet somehow the market is healthy.  Well with moratoriums and banks not moving on non-payers of course everything looks good.  This is like credit card companies only reporting data on those paying their bills.

Yet the underlying problem still hasn’t been fixed.  That is, millions of Americans still can’t afford their mortgage payments.  The growing backlog of shadow inventory is merely a reflection of this problem.  Even so-called prime cities don’t appear so prime when you cut into their data.  Today we salute you Culver City with our Real Homes of Genius Award.

Culver City Duplex versus Shadow on Same Block

The interesting thing about shadow inventory is your neighbor might be gearing up for a strategic default and you have no way of knowing it.  You probably don’t care but what you should care about is what a foreclosure sale will do to your own property values.  If there were only a handful of distress sales it wouldn’t factor too much in a large city.  But have a distress inventory the size of the MLS and then you have problems.

The above home is a duplex for sale in Culver City. The property has been listed on the MLS for 270+ days.  This two unit property has two bedrooms and one bath and another one bedroom and one bath unit.  Let us look at the pricing history on this place:

Price Reduced: 06/03/09 — $695,000 to $650,000

Now for someone buying this place, you would need to approach it as an investor.  Let us assume that you wanted to live in one of those units and rent the other.  Let us first run the numbers on your FHA insured loan:

3.5% down payment:     $22,750

This above chart is so incredibly important.  Just because you can technically afford a mortgage doesn’t mean you should get it.  To buy this duplex someone will need to have a gross income of $180,000 and a down payment of $22,000.  But that is only the first step.  FHA insured will work if you occupy one of the units.  Do you think someone making nearly $200,000 wants to live in a 2 bedroom duplex?  Nothing wrong with that of course but you are spending $650,000 here.  In some states you get a helicopter launching pad for that price.

Some obsess with the monthly payment number.  Okay.  Let us look at that as well.  Your monthly outlay comes to $4,200.  Assuming you live in one of the units, how much do you think you can get for the other unit?  Do you think that you can justify a $4,200 a month outlay here?  That works out to $2,100 per unit (give or take for the bigger unit).  Yet this is the kind of amateur logic that is used when valuing real estate.  What if you have a vacancy?  What if the roof needs repairing?  What about upkeep issues?  Your costs keep on increasing.  It is nice to simply run the numbers and assume you will have a full rent check each month but anyone who owns rental property understands this is merely a hopeful dream.  Reality is much different.

So this duplex is on the market for sale for all to see.  But what you don’t see on the same block is part of the shadow inventory:

The duplex is listed as “A” on the map above.  Oh, and after a bit of investigation we find out that the property is next to the freeway.  At least you have easy access.  The shadow inventory bank owned home is a 3 bedroom and 2 baths home.  It is listed at 1,169 square feet.  This home has an interesting history:

At foreclosure this home had $625,500 in loans.  The home fell back on payments and ended up being foreclosed.  What price did the bank take it back?

The initial loan amounts were $625,500 but the bank took it back for $427,500.  That is a 31 percent drop.  But you know what?  Does a falling tree in the forest make a sound?  Apparently not because this price adjustment isn’t factored into the current median price data.

Culver City (90230):         Median Price ($530,000) y-o-y drop of 9.3%

Culver City (90232):         Median Price ($715,000) y-o-y drop of 4.5%

Now don’t you think that if this home was on the market the above data would be different?  The home was taken back by the bank in September.  So it has been a few months.  Why isn’t it back on the market?  Because banks are using your taxpayer dollars to create an artificial market and trickle inventory back into the city.  This is a lose-lose for taxpayers.  How?  Prices are artificially kept in a bubble while banks keep sucking money like financial vampires on taxpayer money so they don’t write down loans that they made at the peak of the market.  Make no mistake, this is their fault.  And if you think about it, they are the only entity not suffering.  Everyone else suffers above.  Why?

-The previous owner got his punishment by losing his home to foreclosure and bad credit.

-The taxpayer gets taken for a ride because they now are funding the banks little experiment of keeping inventory off the market.  Prices artificially go up so a new buyer pays more because of his own bailout!

-The bank wins because they can keep sucking money from the taxpayer while allowing inventory to trickle out into the market one by one and buffer their write-downs.

This model is clearly unsupportable.  Starting next year, a new commission will be looking into the causes of this financial meltdown.  The fact that they are starting the approach in the past tense is completely wrong.  The crisis is still going on.  Banks are largely responsible for this mess.  This form of corporation run government is troubling.  Clearly people can see the sham that is going on with shadow inventory. This is a complete robbery of the American people.  Think of the case above.  If the REO home were to sell at the market rate prices would depress for the block.  Is this so bad?  Doesn’t that mean that a future home buyer would have to take on less debt to buy a home?  Plus, local area incomes do not support current prices.

The phony numbers will keep coming out but 2010 will be a critical year.  Do people demand transparency in shadow numbers or even the Fed balance sheet or do they turn a blind eye and allow our entire financial system to be run as if it were a Bernie Madoff fund?

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

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It is important to note that MLS data comes from listings that are represented by brokers who are both members of the MLS system and NAR.  The list also expands to Canada.  But with the massive amount of foreclosures many banks are dealing with bulk buyers directly.  In Southern California last month 20 percent of all buyers went with all cash.  Each MLS is geared to local markets but again many argue that the MLS forces membership into the real estate circles.  To that I would agree.  That is why companies like Zillow had to fight hard to break into this game.  The Department of Justice did break some of this up in 2008 and many online brokerages now have better access to data.  But how can you track something that isn’t reported?

I would argue that during the bubble access to information actually fueled the mania.  For every one article talking about housing being over priced, you had 10 articles telling you how cheap homes were and how home prices never went down.  And for a decade checking your estimated home price would have justified your own belief.  In today’s market there is an underworld of information that isn’t easily accessible.  Part of this is the shadow inventory.  And this is a real issue as banks have admitted to holding homes off the market.  The one argument against this data point is a narrow focus on REO data.  Yet to get to REO (bank owned) you must go through various other steps.  More on that later but let us first look at Southern California as our case study:

Now I want to spend a bit of time on the above chart.  I pulled data from a variety of sources including the MLS, foreclosure records, and Southern California home sales data.  What you’ll notice with the blue line is that MLS inventory for SoCal has fallen from over 160,000 homes to below 60,000.  This you would think would be because of massive amounts of sales.  If you look at home sales it is the case that this has increased but not anywhere close to the bubble heyday where we were seeing 35,000+ homes sold in a month.  The big drop has more to do with sales occurring in the foreclosure market.

This is interesting because I was looking at homes that weren’t listed on the MLS and was dealing with a bank directly only a few months ago.  This is happening many times over.  You can see on the chart above REOs with the green line.  It might look like this number has fallen drastically but this has more to do with programs like HAMP that are already proving to be inefficient.  What these programs do is simply shift housing inventory into the shadows and hope that prices somehow go up in the next few months or year.  Yet that isn’t working out.

Let us run a case study on a new area.  Let us look at home of toxic mortgage superstar Countrywide Financial, Calabasas:

We find that 215 homes are listed in distress.  The MLS has 228 listings and only shows 30 of these.  In other words 185 properties out of a sample size of 413 are hidden to the public.  This is nearly as big as the actual MLS data.  We see this two world scenario occurring in many places.  In some areas it is even worse.  Let us look at Agoura Hills for example.

The MLS has 140 listings and the shadow data is at:

The neighbor of Calabasas and the same trend is spotted.  In this case, the shadow inventory is larger than the MLS data.  In some cities in Southern California the shadow data is enormous and doesn’t resemble anything that is shown on the MLS.  Let us look at Cerritos for example:

Cerritos has 262 homes listed in distress.  The MLS has 70 homes listed.  Last month Cerritos had 23 home sales.  So you either have:

Public perception:  3 months of inventory

Real data:            14 months of inventory (big difference)

It is hard to quantify shadow inventory because many in the industry are too optimistic regarding bailouts.  Unfortunately the industry was so corrupt and polluted for years in the state that Alt-A and option ARM products are going to be trickling out into the market for years.  The only reason we are not seeing defaults hitting the MLS in mass is because of programs like HAMP and suspension of mark to market.  This doesn’t mean there isn’t any problems of course.  It just means that the issues will take longer and be more painful.

This is something we need to wrestle with.  Do we pull the Band-Aid off quickly and deal with it once and for all or do we allow this to become a massive decade long disaster like Japan experienced? It seems like the bankers and real estate industry would rather prolong the misery for as long as possible.  Because what is the worst case scenario?  The market is flooded and homes sell for market prices.  Banks fail as they should.  But instead, banks become zombies and little by little their toxic balance sheet eats away at the productive sector of the economy.  Just look at how well banks are doing:

Some are going to argue that notice of defaults should not be included in the above.  In most normal markets I would agree.  Yet with only 3 to 4 percent of notice of defaults curing this means much of the inventory will reach market.  Could be in six months or as long as 24 months.  But it will hit because home prices are massively underwater and prices haven’t gone up even close to bubble peaks:

And that boost comes at the cost of:

-FHA insured loans requiring only a 3.5% down payment

-Fed buying mortgage backed securities holding rates artificially low

-Moratorium programs like HAMP

-Banks holding inventory off the public view

Yet at a certain point people realize that the MLS is not a reflection of reality.  It is the ideal dream world scenario.  The fact of the matter is each day hundreds of people are unable to make their housing payments.  You don’t need a crystal ball to make that prediction.  You’ll know things are recovering when the shadow data starts thinning out.  Until then don’t believe everything the MLS is telling you.

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