Dispelling Myths about the U.S. Housing Market

Housing is far more important than any other economic factor for the vast majority of people reading this because it is more likely to get you into trouble financially in our current economic environment.  One reason is that old, deeply ingrained attitudes and impressions die hard – key among them is the warm, fuzzy feeling people have for owning their own home.

There are two toxic notions that are bandied about that need to be killed before they do any more damage to well meaning, but woefully uninformed people from all walks of life.  The first is that prices have come down so much that housing is a true bargain.  The second is the grotesque idea that there is an ethical and moral dimension to paying your mortgage.  The latter significantly impacts the former.

When you borrow from a friend or relative, even when lawyers draw a detailed loan document, there is an ethical aspect to the obligation.  When you borrow from a bank all you have is a contract which contains all of your rights and obligations – nothing more and nothing less.  Billion dollar commercial borrowers have always understood this and acted accordingly by walking away from mega-mortgages without a second thought.  This phenomenon is about to go mainstream.

We naturally empathize with those who, through no fault of their own, find themselves in financial distress and default on their mortgage.  There is an equally strong, viscerally negative reaction to those who decide to default despite the ability to pay.  The term for this action is strategic default.  It is triggered because the value of the home drops significantly below the amount due on the mortgage.  In the world of high finance, walking away from a seriously underwater commercial property is so common as to rarely be considered newsworthy, and never of note in the mass media catering to the general public.  Strategic default on home mortgages has been a hot topic in the financial blogosphere for over a year but only very recently made the evening network news.  In the network news there is almost always commentary attached about the ethics involved.  That is about to end and open the floodgates to millions of homeowners who will default and remain in their homes until an actual foreclosure sale and notice to vacate.

My supreme confidence for this depressing prediction is that the rich already engage in strategic default in a big way, unnoticed outside the precincts of econonerds like me.  Consider the graphs below:

Note that the default rates on mega-mortgages are far higher than for those of normal folks.  The difference would almost certainly be starker if one considered a comparison with mortgages less than $250,000.

It is only a matter of time before even the most ineptly incompetent and economically illiterate drones of network news get wind of this and start lambasting the rich for their disgusting immorality.  The effect of this pervasive publicity of the propensities of the prosperous profligates will be to energize the average homeowner to take the time to truly understand the numbers involved in their particular circumstance.  When they do, there will come a time within the next couple of years when millions of these folks realize there is no hope and default.

A key part of that calculation, also just beginning to be noticed on the TV news is the time it takes from default to an actual notice to vacate the premises.  In ancient pre-bubble days you could expect to be on the curb three to four months after default, which is why so many people would mail in their keys voluntarily.  A year ago, however, the average duration of rent free status was about 250 days.  Even so, many people mailed in their keys rather than live rent free.

Today, if you were to default on your mortgage, the average time it takes to remove you from the premises is about 470 days.  That is the current average of rent free living for those already in the pipeline.  For anyone defaulting today, that number is probably closer to two years.  The court system is clogged, choking on cases.  On top of that, there are many non recourse states where the lender can only repossess the house and cannot pursue you for a deficiency judgment.

Therefore, don’t even dream about purchasing a home in most areas of the country anytime soon.  Talk of only 10% further declines in home prices before hitting a solid bottom is dangerous to your financial health and utter idiocy.  The average home with a mortgage is already underwater.  Prices, especially at the higher end can easily drop another 30%.

Many of you should consider dumping your home and rent, even if you have significant equity.  Not only do you risk serious price erosion, but your local tax rates are likely to soar and services sag as the so called “great recession” drags on.  Don’t get stuck, especially if you live in states on the edge of default themselves like California, Illinois, New Jersey, and New York.  Please do not be offended if I left your state off the list.  It will probably be on my list the next time we explore the sinkhole of state and local finances.

Potential policy responses are always considerations in the calculus of any financial decision.  My best guess is that, considering the unprecedented monetary and fiscal actions already taken, the next round will probably occur only after the wise guy Washington elites get bashed by the wrongheadedness of ridiculously misplaced optimism as evidenced by repeated soothing press releases on the “right direction” our economy is taking – thanks to their prescient prescriptions of what is now increasingly understood to be financial folly.  Therefore, look for another steep plunge in property prices before more acceleration of cyber cash creation kicks in, driving home prices modestly higher off the lows but sending gold and other commodities into orbit.

For those who harbor doubts about my pessimism, consider that in the back of your mind you are thinking that when homes are foreclosed the debts are liquidated – a normal assumption is a normal world.  This would be a good thing, clean slate and all.  However, our world left normal long ago.  The government guarantees virtually all residential real estate debt, and indirectly guarantees a majority of commercial real estate debt.  That means, even after millions of homeowners are crushed by collapsing prices, lost equity and foreclosed residences, the economy and the taxpayer (you) will still be saddled with the debt – all of it!!!!  Since I have chosen a life of genteel poverty, I thank all of the rest of you in advance for paying off the debt, unless the fed attempts to engineer a default by trying to inflate it away.

Read the original story at SedonaCyberLink