As a weak housing market nudges the foreclosure rate higher, next year is looking promising for investors in distressed real estate.
So far, the U.S. housing slump hasn't produced a bonanza for such investors, but lenders stuck with foreclosed property are becoming more inclined to slash prices or sell properties through auctions, industry experts say.
"We're all going to have to be more creative in the next 12 to 24 months" in selling foreclosed homes, says Chad Neel, president and chief operating officer of Fidelity National Asset Management Solutions, a unit of Fidelity National Information Services Inc., Jacksonville, Fla. Mr. Neel's company helps lenders manage and sell foreclosed homes.
Williams & Williams Inc., a Tulsa-based auctioneer, says its sales of foreclosed homes will nearly double this year to about 5,060. Dean Williams, chief executive of the auction firm, expects another near doubling of sales in 2007.
Dallas-based Hudson & Marshall Inc. expects its auction sales of foreclosed properties to total about 4,800 this year, up 23% from 2005. David Webb, co-owner of the auction company, believes sales will rise at least 20% in 2007.
The auction firms say their busiest auction markets recently have included Michigan, Ohio, Indiana, Pennsylvania, Texas and Colorado. "Word on the street is that California, Florida and Arizona will also be very active in the next 12 months," Mr. Webb says.
Lenders refer to foreclosed homes as REO, short for "real-estate owned." They generally try to sell REO homes as quickly as possible to minimize holding costs, such as those for insurance, taxes and lawn care.
In the first half of 2006, REO properties accounted for 3.1% of all U.S. home sales, up from 2.4% two years earlier, according to a study by First American Real Estate Solutions, a unit of First American Corp., Santa Ana, Calif. The study found that those homes sold at a median discount of 14% to their estimated value in the first half, compared with 12.5% two years before. The discounts reflect the gap between the actual sale price for the homes and the value estimated by a computer model, which takes into account sales of comparable homes nearby and price trends.
It has taken a while for foreclosures to mount. The housing boom of recent years reduced foreclosure rates because most people who fell behind on their loans could refinance or quickly sell their homes for at least enough to pay off the loans. At the end of this year's second quarter, only about 1% of all home mortgage loans outstanding were in the foreclosure process, down from an average of 1.2% over the past decade, according to the Mortgage Bankers Association. Doug Duncan, chief economist for the mortgage bankers, expects a modest rise in foreclosures over the next year or two.
People with weak credit records who have taken out loans over the past year are falling behind on payments at a rapid clip, according to a recent report by mortgage analysts at UBS AG in New York.
Christopher Cagan, director of research and analytics at First American Real Estate Solutions, notes that REO sales are a lagging indicator of the housing market because at least a few months elapse between a borrower's default and the foreclosure. Dr. Cagan expects a modestly higher foreclosure rate and deeper discounts next year.
Discounts are likely to be larger in areas where inventories of unsold homes have soared, such as in parts of Arizona and Florida, Dr. Cagan says. Another big factor in determining demand for REO homes is local job and population growth.
In Los Angeles County, which has strong housing demand and an extreme shortage of space, the median discount on REO homes was just 1.7% in this year's first half. In Ohio's Cuyahoga County, where job losses have left a glut of empty homes, the discount was about 30%.
Most REO homes are listed by real-estate brokers and sold like ordinary houses. But lenders often turn to auctions when they see their REO inventories piling up. Lenders that choose the auction route want to get "current market value, whatever it is, rather than sit on vacant property and speculate as to if or when it might sell," says Mr. Williams of the Tulsa-based auctioneer.
One recent buyer at a Hudson & Marshall auction was Warren Russell, who bought a 1,300-square-foot home in Detroit for just $1,500. Mr. Russell says the home is structurally sound but needs new windows, paint and some other items. He expects to spend about $10,000 renovating the home and then rent it out.
In considering purchases of foreclosed homes, Mr. Russell says, "you can't think, 'Would I live here?' There are people at every level of income that need a roof."
