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Foreclosure Tsunami Predicted by New Study

Nef Cortez

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While various real estate market prognosticators have been projecting their opinions on what the coming foreclosure market will be, the conversation is taking a new turn as Cristopher L. Cagan, director of research and analytics at First American CoreLogic Inc. – unveiled his exhaustive study, a 180-page-plus explanation of his methods and an in-depth investigation of how fluctuations in home prices might affect the foreclosure market. This information depending on what side of the pendulum you are in will undoubtedly be used as “ammunition by doomsayers and optimists alike. ”

On the first page of the study, “Mortgage Payment Reset: The Issue and the Impact, " Cagan makes it sound simple: in the next six years, 13 percent of the 8.37 million adjustable-rate mortgages originated between 2004 and 2006 will default. That's 1.1 million foreclosures in a six- to seven-year period.

Cagan, who holds a doctorate in mathematics from the UCLA, and is not an economist, was more interested in “crunching numbers on millions of loans in a way that allowed people to interpret them for themselves the potential tidal wave that will be approaching. ” What the study is useful for is predicting what the magnitude of the problem might be, and when it will peak.

According to Cagan, the critical year will be 2008, when 2/28 loans originated in 2006 and 3/27 loans dating to 2005 reset. Some other interesting findings of the study were:

  • Cagan's study found that 93 percent of the homeowners in one database of 32 million loans held some equity in their homes.

  • Table 29 on page 52 of the study illustrates Cagan's point: the percentage of homeowners facing resets who have less than 20 percent equity in their homes is projected to peak at 69.5 percent in 2008, up from 40 percent in 2004.

  • A remarkable 25 percent of ARM borrowers facing an interest-rate adjustment in 2008 will have no or negative equity in their homes, compared with 12.9 percent of those facing a reset this year.

    Who will be able to survive these changing market conditions? It most likely will be a family using a traditional loan with a 20 percent down payment that will have more at stake in staying current on their loan, and is less vulnerable to fluctuations in home prices if they need to refinance. The 20 percent equity threshold is important because those who have reached it should be able to refinance into conventional, fixed-rate loans or more favorable loan terms.

    As most lenders would know, borrowers who put little or no money down on a house, or whose loan payments only cover interest and not principal, can quickly find themselves “upside down" on their loan especially if they bought at the height of the market. When home prices stagnate or even worse, depreciate, their homes may end up being worth less than what they owe, and it can be tough to refinance on more favorable terms. Include or factor in additional hardships such as job loss, divorce, etc, and for many homeowners the best solution will be to walk away.

    These market conditions will obviously be a foreclosure investor’s paradise. This study points out in detail what those numbers are likely to be in the coming months and in the near future years. For additional information regarding this study, check out the California Association of Realtor’s website.

    Nef Cortez has been a licensed real estate broker and has held various positions in the real estate and mortgage industry for over 25 years. If you would like to read more of Nef's pithy and timely advice (with the latest info on local foreclosures), visit his website at Diamond Bar Houses or read his blog at Southern California Real Estate Blog

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