Preparing for Rain While the Skies are Blue
Now is the Time to Take Control
By Rebecca Smith
After a long run upwards, the real estate market seems to have reached an inflection point. Interest rate increases have certainly had a dampening effect, but it remains to be seen whether the inexorable rise in asset values is temporarily paused or if we are now on a downward trajectory just as steep as the way up.
The market may be a roller coaster ride for the next year, so should we be preparing for another buying frenzy or bracing for a stream of defaults and foreclosures? The real estate owned (REO) market has been relatively dry over the last two years, but changing conditions could leave lenders, servicers and agents unprepared for a flash flood. Let’s explore the forecast for the REO market and how to prepare for what may be coming.
Clouds on the Horizon
Today, there are indications that the real estate market which has enjoyed an enormous run-up in the COVID era is now headed toward a correction, the severity of which is unknown. Recent data shows that the record rates of appreciation during the pandemic appear to be waning quickly. August price appreciation slowed to 12%, compared to 15.4% in July according to the homegenius Home Price Index from homegenius Real Estate. The slowing market is a natural result of the Federal Reserve’s aggressive action to combat inflation. Over the course of 2022, the Fed raised interest rates 3.25%. As a result, mortgage interest rates have skyrocketed to their highest in 15 years.
In response, the sentiment of homebuilders and homebuyers has turned sharply pessimistic. The Wells Fargo Housing Market Index which measures the outlook of homebuilders has plummeted in recent months from 76% positive in April of this year to just 43% in October. The Chief Economist at the National Association of Homebuilders (NAHB) is sounding the alarm declaring that the nation has fallen into a “housing recession.” This is confirmed by the value of the nation’s largest home building companies. According to the S&P Homebuilders Select Industry Index, which includes home-manufacturing giants such as Masco and Owens Corning, shares have fallen more than 30% this year while the broader S&P 500 has fallen 24%.
But No Downpour. . . Yet
In the midst of all this gloom, homeowner defaults are ticking up slightly. However, most are pre-COVID or COVID-related defaults, which were paused during the pandemic, finally coming through the pipeline.
As of yet there has been no indication of a major storm on the horizon. In fact, the Mortgage Bankers Association reported mortgage delinquencies dropped to the lowest rate ever recorded in the second quarter 2022. Unlike the fallout of the Great Financial Crisis of 2008, most homeowners are not under water on their mortgages. According to ATTOM data from the second quarter 2022, because of the appreciation in home values, 91% of homeowners facing foreclosure now have positive equity in their homes. If they get into trouble, they could still sell and avoid foreclosure.
Dark clouds but no storm means we are in a “wait and see” phase. Servicers, banks, owner/operators, vendors, and agents are trying to determine how best to prepare for what is to come.
Analysts do not believe we’ll see pre-pandemic REO volumes until possibly the latter part of 2023 with defaults trickling in from now until then at a steady pace. But it’s important to remember that borrowers who find themselves in trouble, perhaps because of a job loss or other life changing event, usually take about 12-18 months before they exhaust all other options (savings, friends and family assistance, etc.) and face a foreclosure sale.
Prepare Now and Take Control
The last time the real estate market was hit with a wave of defaults and foreclosures was during the Great Financial Crisis of 2008. Back then, few servicers were ready to handle the enormous volume, leading to the emergence of a small industry of outsourcers to take up the slack. As the market gradually stabilized and REO properties were disposed of over time, most of those outsourcers moved on, consolidated or exited the business. Normalized volumes allowed servicers to handle the flow of REOs on their own and many took this function back in-house. So far so good. But if the volume increases again, will they still be able to process REOs with the current staffing, or will they find themselves overwhelmed? This is a good time to ask the question.
Servicers are already seeing an influx of homeowners requiring loss mitigation assistance and, as a result, have their hands full carefully navigating legal and regulatory requirements as set forth by regulatory agencies. In such an uncertain time for the market, it would be prudent to make a plan now to handle higher volumes of REOs. That could mean reviewing and streamlining your current in-house capabilities or talking now with an experienced outsourcer.
Only a few nationwide outsourcers remain in the market, and they’ve demonstrated enough strength and knowledge to survive when the market was lean and can be expected to have the resources to quickly ramp up capacity. For example, the homegenius family of companies, including its affiliate Radian Real Estate Management LLC, maintains a nationwide network of over 40,000 vendors including contractors, property managers, and real estate agents that can help investors acquire, rehabilitate, and market investment properties. In addition, RREM provides full-service asset management capabilities that can help servicers get the best execution on their properties and potentially mitigate losses after a foreclosure sale.
Many things could change in the coming months and beyond. As persistent inflation continues to resist the Fed’s containment efforts, we will likely see interest rates increase further. This will directly impact mortgage rates and contribute to the reality among homebuyers and sellers that we are nearing a peak in house prices.
In such a market, residential real estate will continue to offer challenges for investors and servicers who can deploy professional asset management capabilities and skilled experience when and where it’s needed most.
Better Safe Than Sorry
The real estate market has changed dramatically in just the last six months. Whether we’ve already weathered the storm, or the worst is yet to come remains to be seen. Experience tells us to prepare for rain while the skies are still blue.
