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| Mortgage Mess Driven by Local Issues |
| Written by Jonathan Smoke | |
| 09.07.2007 | |
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Discuss this article on the forums. (0 posts) What are the three most important words in real estate? Location, location, location. I try regularly to illustrate the economics behind that bit of wisdom that was passed on to me early in my career. That’s why I was surprised to see a post from Maya Roney at Business Week on the Hot Property blog entitled “Real Estate Is Not All Local.” Roney’s thesis appears to be that the mortgage problems are national so the impact to home sales is in part national. “Many real estate trends—speculation, job market growth— are indeed local, but it’s hard to deny that current problems in the mortgage market are national. Turmoil in the credit markets is putting lenders out of business and leading others to tighten their standards for loans.
It’s no surprise that houses are still selling slowly and demanding price cuts.” I don’t disagree that credit and interest rates are largely a reflection of the credit market nationally and indeed even world-wide. And credit has tightened everywhere. That said, the impact of the credit tightening will vary dramatically across markets as home prices, income levels, household demographics, and credit levels also vary by market. And these factors all influence just how much of an impact credit tightening has on home sales. In fact, I am starting to believe that much of the current mortgage mess has been caused by loan originators, Wall Street firms, and rating agencies not paying attention to the local factors that influence housing performance and therefore mortgage default risk. Look at “Foreclosure proceedings set record; Mortgage mess could set off chain reaction” in today’s USA Today: “The problems appear to be focused in seven states. Job losses in Michigan, Ohio and Indiana have depressed housing there. Those three states account for nearly 20% of the nation's homes in foreclosure.
And a rising number of defaults in four states -- California, Nevada, Florida and Arizona -- is largely why the U.S. delinquency rate is up. As home prices there fall, more people are in the upside-down position of owing more on their loans than their homes are worth. California accounted for more than 17% of the subprime ARMs in the country and for more than 19% of the new foreclosures in the second quarter, the MBA says.”  So we already see evidence that local home prices and local economies drive variances in foreclosure rates. Demand and supply conditions likely impact those rates as well.If banks and investors made decisions on loan portfolios without factoring in housing market information, it all starts to make sense how this situation has unfolded. While home prices continued to rise and speculation buoyed demand to gobble up all supply, housing market metrics had no impact on default and foreclosure risk. So models that banks and Wall Street firms created based purely on loan stats looked pretty good at explaining loan performance. But then home prices began to fall, investors bailed, inventory ballooned and sales rates tumbled. As defaults and foreclosures then began to rise, the loan performance models didn’t predict it. And they didn’t see it coming because they didn’t pay attention to what was going on in these local markets. Don’t ignore differences in local market performance on key housing, economic and demographic stats. And don’t just guess at what that performance may be. Our enhanced subscriptions can give you a view of current trends and forecasts for all 361 metropolitan statistical areas in the country. 
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