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Foreclosuregate Goes Beyond the Banks

http://www.fool.com/investing/general/2010/10/21/foreclosuregate-goes-beyond-the-banks.aspx

Josh Wilburn
October 21, 2010

Jamie Dimon, CEO of JPMorgan Chase, suggested last week that if the foreclosure verification problem was not fixed within a few weeks, it would probably be mean bad news for everyone.

Now, with stories of evictees breaking into foreclosed homes, and fearful articles in The New York Times suggesting that buyers should steer clear of foreclosures until things are sorted out, it is difficult to imagine the situation will resolve fully within a month.

According to realtytrac data cited in a recent AP article, 24% of nationwide second-quarter sales were foreclosures. In Nevada, it was 56% of sales. In Arizona and California, it was more than 40%, and in Rhode Island, Massachusetts, Florida, and Michigan, foreclosure sales amount to more than a third of total sales.

With some companies either extending closing dates or suspending foreclosure sales outright, and with buyers now increasingly wary of foreclosed properties -- and who will have more difficulty finding title insurance -- home sales should fall significantly in the next month or two.

Do the math, and it's ugly, and not just for real estate professionals.

The math
Being unoccupied can be tough on a house. Pipes develop leaks that go unfixed, leaks turn into mold, critters tear up insulation, and windows break and let the weather in to ruin carpet. Foreclosure properties often need some serious work. According to a Realtytrac survey conducted late last year, more than half of buyers willing to purchase foreclosed homes were willing to pay 20% or more of the purchase price on repairs and remodeling.

According to a separate Realtytrac survey, there were 248,534 properties in the foreclosure category (bank-owned, in default, or scheduled for auction) that were sold in the second quarter. At an average sale price of $176,871, this amounts to roughly $44 billion.

If buyers of foreclosed properties spent 20% of the purchase price on repairs and upgrades, this amounts to around $9 billion dollars of home improvement and repair that could be lost or deferred per quarter at current sales rates.

In their most recent annual report, Lowe's (NYSE: LOW  ) estimated the size of the home improvement market at roughly $560 billion in product demand and installed labor opportunity. At $9 billion a quarter, adjusted a bit for seasonality, it seems plausible that foreclosures spurred repair and remodeling activity accounts for as much as $35 billion a year of the current home improvement market, or roughly 6% of the total market.

If half or a third of foreclosure sales disappear or are pushed into future quarters, it follows that home improvement sales could see a fall of 2%-3%.

Impact
A 2%-3% sales reduction sure doesn't sound huge, but what would that kind of reduction do to Home Depot (NYSE: HD