Saturday, July 31, 2010

Shadow Inventory: Banks Drag Their Heels As Local 14 Plexes Head To Foreclosure While Fully Occupied

The massive shadow of inventory of homes on which the mortgage holder has stopped paying is an often discussed topic these days. It seems the size, scope, and scale of the number of homes not being paid for, not foreclosed on, and not returned to the free market is staggering.

In fact many recent analysts believe it will take three to four years for this inventory to clear -at today's sales rate. Banks are holding on to an ever growing percentage of real estate to avoid "crashing" the market. How long can all of this last?

Morgan Stanley says the shadow inventory will take four years to clear, while Standard & Poors believes it's closer to a three year pile of sales supply. Regardless, it's obvious that banks (and accounting rules/regulations) are doing everything possible to avoid the grim reality that is real cash flow on leveraged 'assets' hiding in bank balance sheets. The truth for most large banks is insolvency when using accounting rules that were in place for generations prior to 2009.

As post-bubble history unfolds, we begin to get glimpses of how the banks are intentionally and blatantly committing fraud about the performance of loans on their books. Here's a wonderful example of how the biggest of too-big-to-fail are reporting lies, taking tax money, selling garbage MBS, and paying themselves bonuses in turn:

"Attached please find the first two pages of the credit report that I told you about. I [also have access to] mortgage statements from Bank of America, in which the borrower has not made a payment in over 18 months and is currently in the loan mod process, yet their statements reflect a current status each and every month. The borrowers had a foreclosure back in 04/2010 with no mortgage lates reported on their credit report. Please refer to the first trade line on page 2 of the credit report under Derogatory Tradelines."

Perhaps you are among those who think Portland is different, and that there are few if any local examples of bad debt blowing up? You'd be wrong. Here's an example of a local 14-plex apartment building that is fully occupied by tenants -and it's still foreclosing. Even though this asset is at its maximum cash flow generating capacity, it still fails to service the debt required to hold its title. Low rents? Irresponsible borrower added too much leverage on too few assets?

Either way -it's bad debt, and our country, currency, economy, and housing market is chock full of it. We've approached a point where interest rates are setting historical lows as home prices continue their downward trend. I believe that this mess will take many years to clear, and even that belief assumes that someday all the real estate held by banks is actually cash performing or returned promptly to the free market. It could take a decade or more to bottom if we have anything to learn from Japan. Before long, I suspect we'll see mortgage rates with a 3.X% handle. And prices will slowly...fall. It will take years, if not decades, to play out.

A lower interest rate to borrow money at this point is like pushing on a string. Most folks who can borrow don't want to, and are smart enough not to. There is little new credit demand from the credit worthy. Most folks who would be happy (and foolish enough) to borrow money these days cannot, because they are not credit worthy.

Meanwhile, the banks have taken over the once free real estate market. They are refusing to tell the truth about bad loans, and they're holding back housing inventory to avoid daylight on their balance sheets. This game will not end well...