John Murphy Reports

I run a customized MLS search looking for what I would flag as “distressed” housing for investment purposes.  I can search for agent comments in the MLS by using the following string of terms:

*short sale*,*bank*,*REO*,*corporate own*,*3rd party*,*approval*,*foreclosure*,*pre foreclosure*,*preforeclosure*,*pre-foreclosure*,*as is*,*as-is*

Today there are 491 properties for sale in the City of Plymouth.  52 of them came up in my “distressed” search which means that fully 10% of the homes for sale could be considered distressed.  Many of these properties are indeed on the lower end of the market.  The distribution of homes for sale based upon my “distressed” search are as follows:

0-$100,000                     3

$100,000 – $200,000:     17

$200,000 – $300,000:     16

$300,000 – $400,000:     10

$400,000 – $500,000:      5

$500,000 – $600,000       1

CDOM or Cumulative Days on Market for these homes is 113 days and the average asking price is $254,234.  The lowest price “distressed” property is $82,500 and the highest is $549,900.

Generally speaking, the public does not have the ability to search for these kinds of properties.  Only agents can do these specialized word searches as those comments are not sent to public web sites.  The ability to be able to do highly customized searches like this within the MLS is only one of many reasons why you should strongly consider working with a professional real estate agent if you’re thinking of buying.

Pricing pressure will continue in the market as more and more of these “distressed” properties come up for sale.  I’ll comment in a future post about the role the banks are playing in the market and the detrimental effect they are having across the metro.

I’m not sure how closely many of you have been reading all the housing news these days.  It pretty much has gone from bad to worse in the media.  But the really incredible thing is the ideas coming out of Washington.  Ben Bernanke, Chairman of the Federal Reserve, is now calling upon banks to just eliminate or forgive 20% of the balance on mortgages where people are underwater.  While this might look like a reasonable financial decision for the banks, I can’t imagine the chaos this will cause.  The law of unintended consequences is likely to ensue.  Should the banks go this route, I imagine there will be millions of homeowners lining up to talk with their banker about lowering their principal as well.  For those of you who were highly responsible and perhaps put 20-30% down on your home…too bad.  The government is not here to help you, but only those who were either irresponsible or unfortunate in the timing of their home purchase.

With Mr. Bernanke’s comments this week, I would say stay tuned for a government sponsored bailout that involves the banks.  Perhaps the bank will indeed eliminate 20% of the principal on some of these mortgages and the government (i.e. U.S. taxpayer) will likely have to come up with some form of payment to the banks.  How about this?  How about we, the U.S. taxpayer, provide the banks with 50 cents for every dollar they eliminate on a homeowners principal?  I don’t think this is too far fetched.

Secondly, The Wall Street Journal published this idea yesterday by Martin Feldstein, former economic adviser to President Reagan and current Harvard professor.  The op-ed article entitled, “How to stop the mortgage crisis” basically allows for a  “loan-substitution program” whereby the Federal government would lend under water homeowners 20% of the mortgage at very low interest rates.  The homeowner would need to pay back the Feds within 15 years.  Tanta at Calculated Risk takes this idea to the wood shed.

While the FHA loan limits have increased to $365,000 in the Twin Cities, the Feds did not see to it to raise the conforming loan limits for the Twin Cities. There’s a formula that’s involved in determining who gets the new conforming loan limits and because the overall median sales price in the Twin Cities metro is so low, they will not be raising the limits here. Here are the new temporary jumbo loan limits by region.
In other words, if you were waiting for the government to help bail this market out, it’s not going to happen.

Despite the fact that we have many parts of the metro where median and average home prices are significantly higher than much of the U.S. (Medina, and the Lake Minnetonka area including the cities of Wayzata, Orono etc), we are still considered “flyover country” here in the Twin Cities and thus we don’t hit the radar screen of those in Washington DC, NY and LA. Conforming loan limits here will remain at $417,000.

It reminds me of the George Orwell book, Animal Farm where “all animals are equal, but some are more equal than others.”

Holman W. Jenkins, Jr. wrote this excellent analysis on the opinion page of The Wall Street Journal March 5, 2008 (page A16).

The problems occurring in the nation’s housing markets are caused by many factors, but a leading contributor right now is the liquidity problem on Wall Street. Part of the issue today is banks need to “mark to market” financial instruments that don’t have a market right now. This is required by accounting rules put in place by congress. For additional information about the role “mark to market” is having on the ongoing financial crisis, please read “The Reasoned Sceptic’s” well written column entitled “More on Marking to Market.”

While Wall Street and other banks around the world wright off hundreds of billions of dollars right now, at some point they will likely be “writing up” billions and billions of dollars once the panic subsides and these markets find their legs again. It’s impossible to know if that will be in 6 months or years from now, but it will happen in my opinion. The fact of the matter is the underlying assets are not in as bad a financial shape as the financial instruments would lead you to believe. Part of the problem is because there are some very bad loans mixed in with the good loans in order for the banks to securitize and sell off these bundled portfolios. You remember the saying your mom probably told you, “a few bad apples will spoil the whole barrel,” such is the case with these substandard mortgages mixed in with the good. The reason I say that the underlying assets are not in as bad a shape as the financial instruments is because you have various CDOs and bond portfolios losing 30-90% of their value and yet the houses they are funding have not dropped by that much. Yes, in parts of the country prices are down or likely to be down 30+% when all is said and done, but it’s hard to imagine the houses will be worth 10-50 cents on the dollar like the bonds are of some of these companies. Leveraging up is great in an up market, but when the market turns, all that extreme leverage is devastating when the air comes out.

For example, let’s look at the problem with Thornburg. Thornburg is a company that we used to use quite a bit for clients who were self employed or ran their own business. These folks made lots of money, but because of their tax situation and business write offs, didn’t show that they had a lot of income. This is very common in America. Many of these folks would end up taking on significant mortgages through Thornburg – Jumbo’s over $417,000 conforming loan limits. These were solid loans and solid applicants. Now the company is facing potential bankruptcy given the cash crunch and “mark to market” accounting policies. The winners will be the companies that swoop in and either buy their equity or bonds or buy their assets should they go in to bankruptcy. I don’t have the exact details on their loan portfolio and I am not doing this to give investment advice. It’s merely an example so you can see how this credit crunch is hurting outstanding companies with excellent loan portfolios.

According to The Wall Street Journal article published March 8, 2008 (page B1),”REIT Lender Thornburg See Collateral Seized,” Thornburg’s borrowers have an average credit score of 744! The Journal also reported that, “William Gross, chief investment officer of U.S. bond titan Pacific Investment Management Co., said on CNBC yesterday that the firm bought about $100 million of Thornburg’s debt in the last few days. He expected the return on the investment to be close to double-digits.” (note the article is not available online to the public). I suspect Mr. Gross will earn a very nice double digit return on his investment. Later in the article, Thornburg’s CEO, Larry Goldstone goes on to say, “quite simply, the panic that has gripped the mortgage-financing market is irrational and has no basis in investment reality.”

Wall Street is likely to continue to struggle as these debts get unwound and the margin calls increase.