Shadow Inventory will put a Halt to any Sustainable Housing Recovery

For those optimists talking up a housing recovery they might want to stop and take a deeper look into the housing crisis. Analysts at the Amherst Securities Group believe the market faces about 7 million properties that are likely to be foreclosed on by lenders which have yet to hit the open market. The huge amount of forecloses in the pipeline create a shadow inventory of houses (homes that need to be sold but are not currently on the market). There are three sources that contribute to a huge shadow housing inventory. The first cause is the coming wave of forecloses which are due to a majority of ARM's mortgages due to reset during 2010 through 2012. A second source of shadow inventory will come from current home owners who are struggling to make mortgage payments, who plan to put their homes on the market once the housing market makes a small bounce and to a lesser extent baby boomers retiring will downsize and put their homes on the market once there is a bump up in the housing market. A third source of shadow inventory will come from “strategic defaults”, this is when someone who can make there mortgage payments decides to walk away and default on their mortgage because they are upside down on the house (owe more on the house then it is worth). This likely to occur in a case were a short sale is not feasible, and a homeowner owes $300K on a house now worth $150K which they bought just a few years ago. They figure why make a mortgage based on $300K when the house is now worth half, they can take a hit to their credit and rent the same house for half of what the mortgage payment was. This entire shadow inventory will halt the housing recovery and lead to the next leg down in the housing market.

The shadow inventory reflects mortgages already being foreclosed upon or now delinquent and likely to be and, assuming no other properties are on the market, it would take about 1 ½ years to sell this inventory based on the current pace of existing-home sales.

There have been a number of economic reports hinting at a stabilization of the housing market during the 4th quarter of 2009. From May through October, the S&P/Case-Shiller 10-city index of home prices rose each month; May was the first month-over-month increases in values since 2006. A troubling sign for those claiming a housing recovery is underway is that new home sales were down 7.6% in December and in 2009 new home sales were the weakest since 1963.

And adding to the concern is that this dip in sales occurred while the $8,000 first time home buyer credit is still in effect.

The favorable seasonality will be over come the 4th quarter housing numbers and the reality of a 7-million-unit housing shadow inventory is likely to set in. This is already underway with the S&P/Case-Shiller 10-city index showing a fractional gain for October and a .25% decline in November, the pace of the decline should increase over the next few months. However it is likely the economic housing numbers will be misleading over the next few months and a majority will say it is the housing market turning around and recovering. I feel this is not the case, we are seeing a temporary stabilization of the housing market. The uptick in the housing numbers are due to banks slowing down the filing of forecloses due to the government loan modification program, the spring/summer seasonality strength of the housing market, buyers rushing to take advantage of the soon to expire $8,000 first-time home buyers credit and the record low mortgage rates thanks to the Federal reserve buying treasuries to help keep mortgage interest rates artificially low but that program is due to be over during March 31st, 2010.

When the shadow inventory is unleashed and government reduces or removes the current stimulus measures the housing market correction will continue. A major effort was been made by the government to temporarily stabilize housing prices. The next leg down in the housing market is near. However the government can possibly extend these housing stimulus efforts which could slow or delay the next move down, but how much more is the Fed willing to spend?