Housing Bubble Fallout: Foreclosure
One of the biggest fallouts from a deflating housing bubble is foreclosure. If you’re in a market where real estate prices have recently increased rapidly and are now starting to fall, the bubble is deflating and there will be foreclosures in your market.
Senior Vice President and Chief Economist for National City Corporation, Richard Dekaser, looks at housing prices in 299 metropolitan areas in his House Prices in America report for the fourth quarter of 2005. In this report, we can see a dramatic change in overvaluation percentage since the fourth quarter of 2001 in the following three markets:
• Naples, Florida (2001 – 2.5%; 2005 – 96.3%)
• Medford, Oregon (2001 – 6.8%; 2005 – 69.7%)
• Atlantic City, New Jersey (2001 – 0.2%; 2005 – 59.6%)
Since real estate moves in cycles, this means that prices fluctuate up and down on a continual basis, even though the real estate market overall continues to rise steadily over time. If you look at individual properties in the above overvalued markets, you can actually see the dramatic increase in prices during this past five-year real estate cycle.
For example, Zillow.com shows a home on 22nd PL SW in Naples, Florida with a value of approximately $101,000 in January 2002. The value of this same property was $290,725 in January 2006. And, it is located in a zip code where median prices in January 2006 were $302,225. Additionally, the market value change in the past five years is 185% for this home as compared to an average 174% for all the homes in the same zip code.
With rapidly increasing prices and value changes at 174% plus over the last five years, properties located in this market, overvalued at 96.3%, are poised for a correction, and prices will begin to fall. When this happens, foreclosures in this market will increase.
According to RealtyTrac, the ratio of new foreclosures to households was 1:1,117 in January 2006 and that pace is expected to increase. Most analysts agree that up until January of this year, the foreclosure rate was largely due to job loses or risky loans with high interest rates. However, when you add the homeowners that bought at the high side of the market with an adjustable rate mortgage, and the higher adjusted rate kicks in, the number of foreclosures also increases.
“Why?” you ask. Adjustable rate mortgages were all the rage a couple of years ago when both rates and home prices were low. Now, however, if you have an adjustable rate mortgage and that rate increases when the market pulls back, you end up making higher mortgage payments on a property with negative equity. Some of these homeowners will now be overextended and unwilling to continue payments on a property with negative equity. Many will simply let their house go back to the bank, thus increasing the number of foreclosures. This may already be taking place in some of the markets with extreme overvaluation.
