Macro Economic Trends and Risks
Housing Oversupply

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By RodgerRafter
April 21, 2008

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Housingtracker has some interesting data on REO [Real Estate or Lender-Owned] buildup. Here are three of the worst metro areas:

There's a little glitch in the data for early February, but the long term trends are very clear: REO is ballooning out of control, with inventories up over 800% yoy in many areas.

For years, builders built too many homes and speculators bought too many. Eventually they started ending up in the hands of banks as REO. It will take years for the oversupply problem to work itself out.

A good chart on page 10 of this Fitch report shows the foreclosure and REO numbers in private label RMBS going parabolic with about 250,000 homes in REO at the end of 2007:

The housing tracker data tracks just a few companies and it is interesting to see their differing behavior. To move inventory, the REOwners have to drop prices, which means taking losses. Some of them are more willing to do that than others.

Countrywide has brought down their REO totals since hitting a peak above $3 billion worth in early January. Cash may be the biggest problem for them as they try to stay afloat. These charts show declining listing prices in most areas and declining inventory everywhere except for California and Florida:

We may start seeing more REO dumpage soon from the private label RMBS servicers if the securities I've been tracking (and documenting in other posts) is a good indication. I think more and more of them will be getting to a breaking point where they may have to liquidate quickly and default on payments to the various levels of security holders in order to protect their own capital.

Among the big banks being housing-tracked, IndyMac has let REO inventory grow slowly on average, BofA has let it grow a bit more rapidly, and Citigroup has let theirs triple in just the last two months.

Citigroup probably has the most to hide, having reported another $13 billion in write-downs today. I can see why they'd want to drag their feet the slowest on more write-downs.

Fannie Mae and Freddie Mac also seem to be letting their REO grow, with numbers rising about 20% in just the past two months. The two GSEs should theoretically be having lower delinquency rates than all the others, who have more subprime exposure. However, they appear to have been appointed as two of the biggest bag holders for all this mess and should probably be among the last to join the fire sale. Their solvency is also a key question and their borrowing and selling success depends on their pretending that everything will be all right. They've been quick to adopt measures that push losses further down the road, like their "HomeSaver" plan to let delinquent borrowers borrow 3 months worth payments to suddenly become current again on their loans.

There are over 4,000,000 existing homes on the market now, which may be more than the total number of homes sold in 2008. Add to that builder inventory of about half a million and the growing REO problem can be seen in perspective.$FILE/EHSreport.pdf

The biggest issue all along has been oversupply of housing. Affordability is issue number two, in my view, but if there aren't enough buyers, then builders, REOwners and other sellers won't be able to sell most of their homes regardless of price.

Un-Affordability leading to defaults is the biggest reason why existing REO has built up so far. As more and more frustrated sellers go underwater and give up then more homes will likely transfer to REOwning banks. Many builders will pass their land, lots and unsold homes on to regional lenders as well. Eventually, forced sales will drive down prices more substantially. It's happening with some lenders in some markets already:

Housingtracker has interesting metro-area data on affordability measures too:

Somehow I think the affordability numbers are going to come down a lot faster than the REO numbers.