8/14 M Hanson…”Shadow” & “Ghost” Inventory Quantified

by Mark on August 14, 2012

Those estimating “shadow” inventory at levels inconsistent with a multi-year drag on housing are “definitionally” challenged.  Moreover, they have bad data.

Bottom Line:  based on the data and simple math we have at least 10 -years of distressed supply to work through based on the past two years average monthly distressed sales demand quoted by the National Association of Realtors.

Most “Shadow” inventory estimates use incorrect demand numerator assumptions and do not account for borrowers who are technically “stuck”.

Note, that the analysis below looks at two measure;  1)  real “shadow” inventory and time to clear and the more important   2)  “ghost” supply that traps 25 million borrowers in their houses — the prime repeat buyer cohort who must be active in order for housing to be able to reach “escape velocity one day — making them useless in the macro housing market equation.

 

Demand

1)  Annualized Existing Home Sales 4.4mm units

a)  3.1mm units are non-distresssed

b) 1.3mm units are from the foreclosure stock or short sales

Bottom line: Demand for distressed supply is 110k per month on average.

 

 

Supply (Visible, Shadow, Ghost)

 

Visible Supply

1)  Listed Supply – 2.4 million Nation Assoc of Realtor listings

2)  REO – 300k to 400k Foreclosures

**this is where most “analysts” stop looking for supply.

 

“Shadow Supply”

1)  60-days late or in Foreclosure – 5 to 6 million units

2)  short sales – 600k annually

3)  modified legacy loans – 6 million (I call mods “new-vintage, higher-leverage, worse-than-Subprime loans).  Mods redefault at a faster pace than legacy Subprime loans defaulted in 2006 to 2008.  Once loans are modified everybody forgets that these borrowers remain more risky than legacy subprime borrowers…they simply forget about them.  But with respect to default and short sale volume, this is an extremely important cohort track closely month to month.

Bottom line, there are 11.6mm high risk loans/borrowers.  If only half liquidate over the next 3 years it means ~2mm per year in distressed supply in a market only proven to absorb 1.3mm units per year.

**Some better analysts go as far as here but they don’t grasp the “denominator effect” and try to divide total national sales of 4.4 million into the “distressed” supply. That’s not accurate because only 25% of the demand is for distressed supply.

 

“Ghost” Supply 20 million to 30 million borrowers/houses (not mutually exclusive meaning one borrower can belong to multiple cohorts)

1)  “Effective” Negative Equity – 25 million borrowers / houses.  These borrowers are dead to the housing market, as they don’t have the equity to pay a Realtor 6% to sell and put 20% down on a new house.  They were once the most active participants, the repeat buyers. Now they are “zombie homeowners”.

2)  Impaired Credit – 28 million borrowers.  These are borrowers with “c” grade or lower credit that can’t easily qualify for a purchase money loan outside of FHA

3)  Legacy Second Liens – 18 million borrowers.  Legacy seconds that banks refuse to extinguish also trap millions of homeowners making them useless in the macro housing market equation.

**No analysis I have ever seen makes the case that…until these 20 to 30 million — mostly bubble years buyers/borrowers — are de-levered macro housing can never reach “escape velocity” or achieve a “durable” recovery.  In a healthy housing market this is the primary demand cohort…current owners with mortgages who move every 6 to 8 years.

 

Bottom Line:

First timers and investors are volatile and thin cohorts that cannot sustain a “durable” recovery or push macro housing to “escape velocity”.   In fact, “distressed resales” have only averaged 110k per month over the past two years.  That is nowhere near enough demand to absorb all the likely supply detailed in the chart below.

The investor and first timer by and large bowed out of the market in June, as the distressed supply was all but chocked off for the election cycle. Now, the Realtors are screaming for more Foreclosures…how ironic.

This housing market will never achieve a “durable recovery” or “escape velocity” with 20 to 30 million homeowners — the prime repeat buyer cohort — trapped in their houses due to effective negative equity, poor credit, or legacy second liens.  All that will continue to happen is stimulus-induced short squeezes like we saw this year and in 2010 followed by hangovers like in 2011 and will again in the back half of 2012 and 2013.

 

Best Regards,