Is there a tidal wave of foreclosures coming?

I get this question all the time.  The media keeps mentioning something
called “ghost inventory” or “shadow inventory”, referring to the number of
homes that are bank-owned but not yet for sale on the open market.  Some people believe that this growing
number of homes represents an overhang of inventory that will bring prices down
even lower as they release them for sale. 
I don’t believe a tidal wave is due to hit the Bay Area — let me
explain. 

 

First off, banks and asset managers have no interest in
seeing declining home prices, especially if they believe they will continue to
take back more houses through foreclosure.  So “dumping” a bunch of new inventory and driving down
prices will only hurt prices further for homes they currently have or will be
taking possession of soon.

 

Perhaps the most important reason we won’t see a wave of
foreclosures is due to the bank’s own loss-recognition policies.  From my limited understanding, when a
bank reclaims a home through foreclosure, the property becomes a managed asset
to the bank, but the loan that went bad has not yet been fully recognized
through their accounting rules as a loss. 
When the asset is sold, then they need to recognize the actual loss
(difference between net after sale and the value of the original loan).  Of course, the bank can’t sell every
property they have and recognize their losses immediately because it would
devalue the bank completely.  As a
result, Wall Street would hammer their stock price and question management of
the company.  They have no choice
but to slowly recognize these losses over time.

 

So, for these reasons, I believe we will see foreclosures
continue to trickle onto the market at a controlled pace, keeping prices stable
and generating opportunities for buyers like we’ve never seen in our
generation.

 

-mark

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