I usually don't write just to see myself think. Usually these commentaries are written to meet some immediate need.
For example, I have not one but three clients in a row get excited about properties they find on listing Web sites, properties that turn out to have sold months or even a year ago. I write an article warning my clients and anyone else that the information on listing Web sites isn't always accurate.
For example, I write an article disputing a news report claiming that plunging home prices in Modesto absolutely mean plunging home prices in the sought-after neighborhoods of San Mateo County. I must be psychic, because two days after I post the article, a buyer looking in San Mateo County tells me he's thinking of laying low because news reports say plunging home prices in Modesto absolutely mean etc. I send him a link to my article. Now he knows the other side of the story, the side that doesn't make it into the "balanced" reporting he's reading.
For example, short sales start popping up in some of the neighborhoods my clients are looking in. I get tired of trying to tell them why I think short sales are a lousy deal, for them and for everyone else including the institutions that routinely kill them, so I write a long, exhaustive article. Maybe too long and exhaustive, but if my clients think I'm trying to steer (a word with legal consequences) them away from short sales, I need them to know that a) I'm not, but b) they should know what they're getting into. Then they decide if we look at short sales.
Short sales aren't going away anytime soon, at least in the most affordable local neighborhoods. In Central San Jose, for example, a quick check of inventory suggests that about 70 percent of homes in the $650k-and-under range are short sales. And since many of these short sales identify themselves as such only in the confidential remarks section of the Multiple Listing Service, a section excluded from the Internet, buyers looking in this area and price range are often unaware that many of the homes they see on the 'net have at least one big "issue". (And since the local MLS doesn't make listing agents disclose short sales to buyers' agents through the MLS, the sharp buyer's agent working the affordable end of the market will always do a quick check of online lien records to make sure a seller still has equity, because most will need it to sell.)
Even if short sales plainly identified themselves to buyers, they still have this baggage: virtually all buyers, and many agents, don't know what a short sale is. And very few buyers are willing to wade through a long, exhaustive article on the subject. Here's where that "immediate need" I mentioned at the top comes in: I now have a client who's trying to wrap his mind around short sales. Not that he's finding many in the $800-900k price range, but they do pop up occasionally. What follows is a typical short sale scenario.
My client finds a listing on the Internet that looks interesting. I look it up on the MLS and find it's a short sale. I tell him the cons. I'd tell him the pros if I knew any, because I haven't seen any indication that short sales are bargains. He wants to see the home anyway. Fair enough. I go back to the MLS to get the occupant's phone number and discover that the home is now a "pending show". "Pending show" usually means that the seller has accepted an offer but that the listing agent is encouraging other agents to show the home, almost always because the buyer's offer has a contingency that lets the buyer walk away from the deal until and unless the buyer releases the contingency. In other words, the deal is not a done deal.
But since short sales have their own reality, in this case "pending show" means that, according to the listing agent's confidential remarks, "offers have been submitted to lenders for approval". Since lenders' short sale representatives live to shoot down short sales, I know this deal is a long way from done. So I make two calls, one to the occupant to set an appointment to see the home, the other to the listing agent to see what my client is walking into.
The listing agent says resignedly that "this deal is going nowhere". The home attracted "two good offers", both over list price, one of them all cash. But both offers are far below the outstanding balance of the loans, which is "well over $900k" and, true to form, the lender holding the second loan has thrown a monkey wrench in the works. The home isn't going to sell, he says. Instead, it'll go to foreclosure and, if my client and I are still looking in a few months, we'll have another crack at it, this time as a bank-owned property. I ask him if there's any point in showing it to my client. He says "no, don't show the home, I'm going to cancel the listing". Since he's the listing agent, I call the occupant and cancel the showing. Then I email all this to my client.
He responds, "I sort of understand, but concede I'm a bit confused. I've heard that people can sometimes get a good deal buying foreclosures. Will the bank eventually try to sell this? Is buying a foreclosure better or worse than buying a short sale? Is it even possible? Does the total debt suggest they'll ask at least 900k?"
I respond:
It is confusing. First of all, a short sale is not a foreclosure sale or a "bank-owned property". It may be helpful, although potentially misleading, to think of a short sale as a "pre-foreclosure sale".
A short sale means that a homeowner who owes more than his home is worth has decided to sell, often because he can't make the loan payments. One misconception of short sales is that short sellers are always in foreclosure. Surprisingly, that's not always true—sometimes a short seller is simply trying to sell before his lender(s) files the Notice of Default that starts the foreclosure process. Or a short seller is able to make the payments and wants to sell for other reasons but discovers, either during his agent's listing presentation or after months on the market, that his home is no longer worth the total loan balance, if it ever was (I'm thinking refinance here). But usually the short seller is behind in his payments, and he's desperately trying to sell his home before it's sold out from under him "on the courthouse steps", usually to the only bidder present, the lender holding the first loan.
Ideally the short seller has contacted his lender or lenders and gotten approval, in writing, to sell his home at a specified price below the total loan balance. Note that I stress the word "ideally". Once in a blue moon I'll see the listing agent claim she has lender's formal commitment to sell at price X, and sometimes price X miraculously happens to be current market value, and occasionally I run across a short sale that actually got into contract and actually closed, but in almost every case I've seen or heard of, lender approval is never forthcoming, either before or after the house receives offers. A short seller who's current with his payments apparently has no chance of getting lender approval. A short seller who's behind invariably runs up against lender stalls, hedges and last-minute roadblocks that guarantee his home will end up in foreclosure.
Let's use this house as an example. The owner pays $895k for it in 2006, using a first loan of about 80 percent ($708k) and a second of $177k. Now, in 2008, the property is worth, say, $835k. The first lender gets first dibs on the $835K gross proceeds from the sale (less commissions) and gets all its $708k back. But second lender stands to get only $127k from the sale, not the full $177k it loaned (and we won't even count five months of delinquent loan payments plus interest plus penalties). But instead of accepting 72 cents on the dollar ($127k) or something close to that, second lender plays hardball and holds out for more money. But there isn't more money—the house is worth what it's worth. Want proof? It was on the market virtually all of 2007 at more money, $898k, and it didn't sell. The market voted down $898k.
This minor detail fails to faze second lender. Second lender refuses to okay the $835k offer. House goes into foreclosure. First lender buys it on the courthouse steps and in so doing wipes out any claim second lender has. First lender then hires an agent who sells the house for its current market value of $835k. First lender is made whole, or reasonably whole, even figuring that foreclosure has cost it about 10 percent of the house's market value. Second lender winds up with nothing, when it could have had $127k. Second lender pays the price for throwing its weight around when it had none to throw around. Stupid and self-defeating, but it happens so regularly that it's almost certainly standard industry practice. I can see the annual reports to shareholders: "We are employing strict loss-mitigation measures to lessen the impact of the subprime crisis on our loan assets".
Of the hundreds of short sale listings I've seen, only a handful have been listed over $900k, and most are $700k or less and concentrated in a few neighborhoods that are getting absolutely hammered. That's why short sales (and foreclosures) are so rare in the neighborhoods you want. But they account for most of the listings in places like Central San Jose, where I have clients looking. And virtually none of those short sellers are going to avoid foreclosure.
It's questionable whether any foreclosure property in this area, no matter what the neighborhood, is a screaming deal. When lenders discount their properties substantially in distressed markets such as East Palo Alto, all they're doing is accelerating the inevitable process of finding the new floor for home prices in that market. In other words, lenders are much more willing and motivated to sell at the new, lower market value than are private sellers. That motivation hastens the decline in home prices to their correct level.
This casts doubt on the accuracy of academic studies claiming to show that each foreclosure in a neighborhood causes home prices to drop by X percent. The effect probably isn't that cut-and-dry and, in fact, may not even exist except in the parallel real estate universe of the economists. My guess is that what the economists are measuring isn't the cause of declining prices but merely the byproduct of a declining market. It isn't the number of foreclosures that determines how low prices go; price declines are determined by the underlying financial weakness of the market, which manifests itself in the number of foreclosures. The foreclosure epidemic sweeping through local affordable neighborhoods is just a symptom of the wild mood swings subprime has gone through over the past few years.
But in a city like Burlingame that wasn't pumped up by subprime lending, it's doubtful that a bank-owned property would sell at a discount to other properties, simply because there's still a relatively large pool of ready and qualified buyers (think of all the people you've seen at open houses) who want to live in a place like Burlingame. This isn't the case in places like East Palo Alto, although I think they're rapidly nearing that point, as low prices begin to attract investors who can still get loans.
So that's what I told my client. Maybe cleaned up a little. Maybe expanded a little.