Restart Home Sales to Stem Foreclosure Tide

Joe Hanauer is Chairman of the Board of Move, Inc., Chairman of the International Real Property Foundation, and former Chairman and CEO of Coldwell Banker Residential Real Estate. propertyportalwatch.com welcomes a post from Joe on his interesting proposal for home value assurance.

Finally Washington is recognizing housing needs that need to be addressed. In addition to lower interest rates and a tax credit for first time homebuyers, the administration’s focus is on reducing foreclosures. Beyond helping the millions of families who played by the rules and can’t service their debts the administration believes if foreclosures can be reduced home prices will stabilize. But will this be enough?

A lower interest rate solution is based on previous medicine that worked in environments without sharply falling home prices. Also, while the announced programs may reduce foreclosures will this happen quickly enough and impact enough homes to actually stop price declines? To reduce foreclosures home sales need to restart. A pick-up in sales reduces foreclosures since delinquent borrowers will find a market they can sell into and others can refinance if values stabilize. So why not focus on restarting sales by attacking the main reason for weak sales – worries of continuing price deterioration? What if you could buy a home and receive a guarantee against a price decline?

During each down cycle since the 2nd World War the pattern of residential real estate sales is the same. A variety of factors sharply reduce demand for homes. At times its Fed policy such as in 1979 when interest rates were cranked up eventually peaking well into double digits thereby making ownership both less attractive and disqualifying buyers who may have qualified earlier. At other times down cycles were caused by a weakening economy like after the Tech bust.

In each case, demand was not eliminated, it was simply deferred. The forces that caused potential buyers to enter the market either as first time buyers, as up-graders, retirees, down-graders, or transferees, were based on fundamentals unique to each potential buyer or seller and such fundamentals didn’t disappear when the shoppers temporarily exited. (Note: we’re referring to core homebuyers – owner occupiers versus speculators.)

In past down cycles, deferred home buying demand was eventually reignited when potential movers felt comfortable re-entering the market. What caused them to re-enter is similar to the adage that they don’t ring a bell when the stock market bottoms. However, there is something more logical about the forces that cause buyers to re-enter the housing market than what causes equity markets to bottom. The forces that initially brought potential homebuyers into the market simply grow in intensity. If they need more space the discomfort of not having more room grows, it doesn’t subside. If being closer to employment was a motive this motive grows with each passing day and long commute. If adult off-spring are living with parents, it does not get easier with time.

Two ingredients are needed for buyers to re-enter the market. One is their ability to buy. This includes earning power, the price of housing, mortgage availability and the cost of a mortgage. The other impediment deals with confidence. Will they keep their jobs, will incomes be reduced, is it the wrong time to buy because prices will keep falling? As evidence that pent up demand is growing versus eliminated, the visitors to our Realtor.com, the nation’s most visited online home search site, continues to be at strong levels. People are continuing to spend record time searching and they do it repeatedly. This is statistically relevant since several million people visit the site monthly.

So what does it take to cause these website visitors to act now?

Regarding the issue of affordability, mortgage rates have finally started coming down along with availability and should fall further considering a ten year government bond around 2.7%. Home prices are obviously lower. Clearly those who have left the market but continue to have needs can now buy at a lot lower cost than a few years ago. Affordability or the ability to buy and get financed isn’t the sole issue for some buyers on the sidelines. How about the second impediment, confidence?

In past cycles, the combination of waiting on the sidelines accompanied by lower interest rates brought buyers back to the market. Today, the sharp decline in house values is a depressant not prevalent in previous markets. (Certainly a few markets experienced sharp declines during past cycles however most markets experienced relatively small price erosion unlike today’s wider spread price drops.) In order to entice pent up demand to return to the market this crisis of confidence, the fear of further falling prices, needs to be addressed in addition to the lower interest rates. I propose home value assurance.

Here’s an example of how it could work: Provide assurance that the top 10% of a home’s value will not deteriorate if the home is bought during the next year and held for at least three years and then sold. Three years from the time a property is bought a buyer elects to sell and if it doesn’t fetch 100% of the purchase price an owner would be paid for any loss on sale up to 10% of the purchase price from a government backed program.

Who will pay for the insurance? Sellers would pay, say 3% of their proceeds from the sale for the privilege of getting their homes sold. Homebuilders, if covered by the program, would kick in more. The federal government would of course participate in the cost. An option for those still focused on “moral hazard”, if a buyer elects to have this assurance and if the home appreciates after three years, a fee of 3% of the purchase price could be due to the government from the buyer and paid at time of sale or refinance so long as such fee does not exceed 25% of any such gain in value. The mechanism for achieving such an assurance may be partially in place with mortgage insurers and FHA. These capabilities can be re-engineered to provide this price insurance and variables can include the size of the guarantee, the number of years before it is triggered, beneficiaries’ shares in funding the program, a maximum purchase price, and owner-occupier requirement.

Finally, cranking up home sales will do more than take pressure off of foreclosures. It can restart the sizeable contribution to the GDP that flows from residential real estate activity as consumers start moving, furniture starts to be bought, remodeling begins, the financing sector gets involved, homebuilding begins and all of the elements of the economy related to someone moving kick into gear.

What would be the cost of a program like this? If every home bought during the next twelve months fell 10% in value by the time it sold after a three year hold, and if 100% of the homes were insured, the total cost if the government footed the entire bill versus having seller and buyer participation, would be under $150 billion. Clearly an additional drop of 10% for all homes three years from now is unlikely as is the notion that all buyers would sell. If indeed this were to occur, the cost would be a pittance compared to the larger problems we’d be facing. If an estimated one third of the homes covered were sold with fees paid by participants as outlined above and prices down 10% or more in three years, the cost to the government would be under $20 billion. But if this program keeps the price correction from overshooting and prices three years from now aren’t lower, there would be no cost to the government and even the cost of administration would likely be covered by participants’ fees.

This is simply one approach. Clearly others exist. But with rhetoric finally focusing on price deterioration, let’s take a look at comprehensive solutions to get sales restarted. Today’s price deterioration makes this different from past downturns.

by Joe Hanauer
Chairman of the Board of Move, Inc. and the International Real Property Foundation

[image: flickr/respres]

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