7 minute read
No Distress & No Crash
By Steven Thomas, REPORTSONHOUSING.COM
Steven Thomas has a degree in quantitative economics and decision sciences from the University of California, San Diego, and more than twenty years of experience in real estate. His bimonthly Orange County Housing Report is available by subscription and provides housing market analysis that is easy to understand and useful in setting the expectations of both buyers and sellers. His website is www.ReportsOnHousing.com.
Fear. Worry. Uncertainty. These words describe how many people feel about today’s housing market. Home values have surged higher since 2022; and within the past couple of weeks, mortgage rates have climbed to heights not seen in twenty-three years. With home affordability at record lows, many argue that when the economy cools or slips into a recession, housing will collapse, and foreclosures will rise. After all, isn’t that how the Great Recession unfolded?
Members of the public often jump to conclusions without looking at all the facts and trend lines. They remember the burn from 2008 through 2011. Everyone either was burned or knew someone who was hurt by the collapse in home values. The economy ground to a halt, and unemployment grew to levels not seen since the beginning of the 1980s. Thus, everyone is jumping to the conclusion that housing will suffer.
But just because mortgage rates have climbed toward 8 percent does not mean that values will go down and that many homeowners will lose their homes as a result of short sales or foreclosures. The Great Recession was fueled by a credit bubble inflated by loose lending practices, including subprime mortgages, pick-a-payment plans, teaser adjustable rates, zero down, and plenty of fraud. Because these high-risk borrowers were vulnerable to adjustments in their rates or changes in the economy, a wave of foreclosures ensued.
At the start of October 2024, there were only four foreclosures and two short sales available to purchase in Orange County, for a total of six distressed listings. Distress demand, the number of new pending sales over the prior month, was at one. Foreclosures and short sales represented only 0.3 percent of the active listing inventory and 0.07 percent of overall demand. Compare that to January 2009, when there were 5,104 distressed listings, 44 percent of the inventory, and distressed demand was at 1,428 pendings, 67 percent of total demand.
At the start of October 2023, there were only four foreclosures and two short sales available to purchase in Orange County, for a total of six distressed listings. Foreclosures and short sales represented only 0.3 percent of the active listing inventory and 0.07 percent of overall demand. Compare that to January 2009, when there were 5,104 distressed listings, 44 percent of the inventory, and distressed demand was at 1,428 pendings, 67 percent of total demand.
That is correct. In January 2009, two-thirds of demand was distressed (see Figure 1). Lenders were in control of the housing market through bank-owned listings, foreclosures, and short sales, where the lender (or lenders) needed to approve taking less than the outstanding loan balance. They were unemotional sellers willing to do whatever it took to sell. Often, that meant pricing a home below the most recent closed sale. Consequently, home values plummeted.
Some believe right now is the calm before the storm, similar to the years 2005 and 2006. Yet, this is where today’s catastrophically low inventory and the strength of the homeowner step in and quash the argument. The lead-up to the Great Recession was characterized by an Orange County inventory that grew from 4,900 homes in March 2005 to more than 16,000 homes in the summer of 2006 and reached nearly 18,000 homes by September 2007. This year, the inventory climbed to 2,475 homes and will drop to around 1,500 by year’s end, a near-record low.
Before the Great Recession, the average buyer FICO score was 681 (2006), low- or no-down-payment loans were common, and buyers tapped into subprime mortgages, pick-a-payment plans, and teaser adjustable-rate products. Adjustable-rate mortgages made up more than one-third of mortgage applications each year from 2004 to 2007. There was a flood of cash-out refinances where homeowners used their homes like ATMs. When the economy slipped into a recession and adjustable-rate mortgages reset to much higher rates, a wave of homeowners could no longer afford to make their monthly payments. Unemployment surged from 5 percent in January 2008 to 10 percent in 2009, squeezing an already stressed housing stock.
Before the Great Recession, low- or no-down-payment loans were common. Adjustable-rate mortgages made up more than one-third of the mortgage applications from 2004 to 2007. When mortgages reset to much higher rates, many homeowners could no longer afford to make their monthly payments. But in 2010, the Dodd-Frank Act tightened lending standards. As a result, 96 percent of today’s homeowners with loans have low fixed-rate mortgages.
Today’s housing stock is entirely different (see Figure 2). Lending has been tight since the adoption of the Dodd-Frank Act of 2010, a law that provided common-sense protections for consumers in obtaining a loan. Buyers have purchased homes with higher down payments, tighter qualification and lending standards, and an average FICO score of 746 (2022). Cash-out refinances are at their lowest levels since 2000. Unemployment has remained at decade lows, below 4 percent. An incredible 96 percent of homeowners with a loan enjoy low fixed-rate mortgages. Unlike before and during the Great Recession, homeowners today are not vulnerable to rising payments. Nearly 50 percent of all homeowners across the county are considered to be “equity rich,” meaning they have more than 50 percent equity in their homes.
Homeowners do not have to move. They have qualified for years with solid credit and good jobs and are now enjoying their low, fixed payments. Consequently, homeowners continue to “hunker down” in their homes, unwilling to move because of their current locked-in, low rate. According to the Federal Housing Finance Agency’s National Mortgage Database, 85 percent of Californians with a mortgage have a rate of 5 percent or lower, 69 percent have a rate of 4 percent or lower, and 30 percent have a rate of 3 percent or lower. As a result, fewer homeowners are listing their homes for sale in the current high-rate environment. From January through September of this year, 18,653 new sellers entered the market in Orange County, 13,760 fewer than the three-year average before COVID (2017 to 2019), 42 percent less. These missing For Sale signs exacerbate the low inventory dilemma and have led to a waterfall dive in the number of closed sales.
The Bottom Line: Do not count on a wave of distressed homes or a housing crash. The Orange County Expected Market Time (the number of days to sell all listings at the current buying pace) was at 50 days at the start of October, lower than last year’s 68-day October level and much lower than the three-year average before COVID of 86 days. Even if the market were to line up favoring buyers in the negotiating process, the inventory crisis and strong housing stock would prevent a substantial downturn. Housing will not crash.
