Montag, April 26, 2010

Number of the Day Indeed...

This is indicative of exactly how the deep the hole is that has been dug.

The US housing market, right now, has 103 months of inventory to be sold before foreclosed homes are off their books.

What does this mean?

It means that anyone holding a foreclosed home, be it a bank, a fund, or whomever, cannot possibly afford to simply keep it off the books in the hope that that the market will recover. What does this mean?

First and foremost: if nothing else happens, then holders of mortgages in default will face non-performance of these loans until the house is sold for a price that can cover the costs (hence ending the mortgage), the mortgage is re-negotiated (meaning that the banks will have to report their fiscal losses on these loans), the mortgage holders become real estate owners (leading to reporting of losses in the transformation from a fiscal asset to a real asset with a cash stream), or something magical happens.

Right now, it looks like most mortgage holders are looking at the fourth solution as a way to get out of this trap of their own devising.

103 months of inventory.

So, what does the market look like?

Well, first and foremost: there is little or no addition to the housing inventory. In 2009 there were, all told, only ...0,046mn residency units added to the inventory, instead of the long-term trend of around 1.5mn units added to the inventory. That's right, 46 000 units were added in 2009. instead of the 1.5mn normally added to the inventory.

So demand is, basically, gone.

The sales ratio tells an interesting story: sales as a percentage of inventory increases has been up over the long-term trend since 1996, 13 years in a row, indicating that the real estate bubble was a long time building up.

With 103 months of inventory, supply is basically gone as well. No one with any foreclosed properties can afford to lend for new units until these are removed from the balance sheets.

No market works when both supply and demand are moribund with little or no chance of recovery.

So, what's to be done?

From an economics standpoint, the only real thing that will work is for mortgage holders to repossess their properties and become holders of rental units. The hope here is that the cash flow will serve to generate enough revenue to partially compensate for the losses of the mortgage cash streams that the non-performing loans are inflicting. In banking, cash flow is king: everything else follows.

Those that bought too much house? Who took out equity and are now under water? They lose all of what is left of their equity, lose title and ownership. Rents will be onerous to cover the costs, but given the fact that many made poor financial choice, it's an appropriate loss, as making poor financial choices must bring financial hardship. If they decide to move to smaller, less expensive quarters, so be it. The houses will be available, and the combination of rental units standing empty and not generating income along with increased demand for rental housing will bring a new rental market price equilibrium, different in each large neighborhood according to supply and demand. There may be neighborhoods where the prices have fallen so much that there is no business plan that will work: here bankruptcies on both sides will be necessary and serve to clear the market.

Anything else does not compute, unless you are expecting something magical to happen. Mortgage holders lose their lovely cash streams, but they've already lost those and this represents reality; people foreclosed against lose their equity (such that it was) and their ownership, with all the non-material losses thus implied.

But the losses are there, are real and the sooner they are dealt with, the better. Postponing this in the hope of magic unicorns descending from the heavens (the current plan, apparently) bearing large sums of cash doesn't solve the problem.

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