Thursday, December 10, 2009

This article reports that the November drop in the number of foreclosure filings (compared to October, filings in November of 09 were 18% than in November of last year) is due in part to (1) recently enacted mediation programs which (probably only) delay foreclosures, and (2) a firming up of housing prices which left fewer homeowners 'underwater' on their mortgages (where they owe more than the house is worth).

The first point sounds about right, both the federal government and states have put pressure on mortgage lenders to hold off instituting foreclosure proceedings.

But the second point doesn't make sense. There are two scenarios in foreclosures: (1) where the homeowner loses the ability to pay the mortgage, and (2) where the house drops in value to the point where the homeowner figures it is better to walk away than to keep making payments. Let's call the former 'involuntary' foreclosures, the latter 'voluntary'.

A 'firming up' of housing prices does nothing to help the first group. It doesn't matter how much their house is worth, if they don't have the money to pay the mortgage, they're going to lose the house.

As for the second group, a 'firming up' aka a 'mild upswing in housing prices' is, in my humble opinion, not going to make much of a difference in whether someone voluntarily walks away from their mortgage.

Imagine you bought a house for $500,000. It's dropped in value to the point where it is worth so much less than what you paid that you can't imagine every getting your money back on your investment. Key: it takes a big drop in value to turn mortgage paying homeowners into voluntary deadbeats, they're not going to choose that path because, in the above example, their house is now worth only $450,000.

Their house would now have to be worth somewhat south of $300,000 for them to consider walking away from their mortgage (keep in mind that voluntary deadbeats have to think the benefits of walking away are going to be worth the costs and hassles of having their credit screwed up for the next several years). Thus, it is going to take a big drop in housing prices and a 'mild upswing in housing prices' isn't going to restore enough value (or confidence) that the calculation suddenly shifts to where it is now worthwhile to stay in the house and keep making payments.