Shadow Inventory: It’s Not as Scary as It Looks

by 15 Aug 2012

(WSJ) -- The housing market is improving because there are more buyers chasing fewer homes. Skeptics of a housing bottom, however, often point to a scary set of numbers: the “shadow inventory” of potential foreclosures—the millions of mortgages that are either in foreclosure or in default.

It’s true that home prices are unlikely to see brisk gains once they do hit bottom because it will take years to absorb this glut. But will this phantom inventory derail the incipient housing bottom?  Maybe not, say a number of housing analysts.

There are several reasons why the shadow inventory isn’t as scary as it sounds: It’s concentrated in a handful of markets—it isn’t inherently a national phenomenon. It is being offset by improved demand, particularly from investors. And the housing vacancy rate is low, a product of very little new home construction over the past few years that could counterbalance continued high inventories of foreclosed homes.

















We’ll address each of those in subsequent posts. But first, let’s examine the actual size of the shadow inventory. While the shadow is very large, one often-overlooked fact is that the shadow isn’t nearly as large as it was two years ago.

There are a wide range of estimates of shadow inventory. A common measure are loans that are either in the foreclosure process or that are three months or more delinquent. These are mortgages that are among the most likely to ultimately become bank-owned properties.

Barclays Capital estimates that at the end of May there were around 1.8 million mortgages in the foreclosure process and another 1.45 million where borrowers have missed at least three payments. That puts the total number of properties that could be repossessed and resold by banks at around 3.25 million mortgages.

Read full article from Wall Street Journal


  • by William Matz | 8/15/2012 6:34:56 PM

    (also posted to WSJ)

    While it is true that shadow inventory is down, it would have been helpful to examine why it is down. A general statement that there are other risk factors leaves a rather incomplete picture.

    The biggest factor reducing the shadow inventory has been the slowdown in foreclosures during the 18 months the attorney general investigation was pending. Now that it is concluded in the toothless settlement, foreclosures are predicted to rise by 25%

    There are many other risk factors that must be considered:
    1. Amherst Securities Group predicted that Option ARM foreclosures would not peak until Sept 2012. And that was before the AG investigation slowdown.
    2. There are many 3/1, 5/1, 7/1, and 10/1 ARMs that will be going adjustable and - often - going from interest-only payments to fully-amortizing. Similarly, many of the mortgage mods only fixed the initial rates for five years, and increases are starting.
    3. Similarly, billions in HELOCs are going from interest only to fully-amortizing, with remaining terms of as little as ten years, causing a huge jump in payments.
    4. Much of the hi LTV lending over the last four years has been FHA; the most recent estimate is that 40% of recent FHA will default.
    5. The broader economic picture is still very tenuous. Employment, as FLS noted is low. The euro crisis, Asian slowdown, and Middle East turmoil all have the potential to disrupt any recovery and cause recession.
    6. The looming "fiscal cliff" will push the US into recession per Bernanke unless a frozen Congress and President act.
    7. Rising interest rates, coupled with the Fed having shot its last arrows limits response options.
    8. Much of the commentary about rising prices is dangerously misleading because the basis is the use of median prices. Median prices can never show price movement because median houses are different during each period. So any comparison is apples to oranges. Recent "moves" in the median have created a mirage of rising prices simply because there has been less activity in the lower end REO/distress range, causing the median (middle of the market) to "move" up. But that does not tell us whether prices are going up or down.

    Of course every market is different. But right now I believe the single biggest factor is the level of confidence in the economy. Lack of confidence will deter purchases and encourage defaults. And the impact of those psychological factors cannot be accurately measured. But it is obvious that there is much more potential for negative shocks (e.g. Iran, euro crash) than positive shocks. So until the bulk of the world economy begins to rebound on a sustainable basis, we will muddle along on the edge of the economic stall curve.


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