Shadow Inventory Variants Could Trigger Regional Price Declines: Report

Mon, Jun 14, 2010


By: Carrie Bay

Regional variations in the shadow inventories of distressed U.S. mortgages could be an indicator of the direction home prices will take, according to a new report published by Standard & Poor’s Ratings Services.

The company’s analysts say differences in the backlog of distressed properties point to which markets will see home prices stabilize or even increase, and where additional declines may still be in store.

The volume of troubled residential properties has been growing in nearly every U.S. state since 2005, S&P said, and borrowers nationwide are now defaulting on their mortgages faster than existing defaults are being resolved through liquidation. These trends have given rise to a large “shadow inventory” of distressed properties.

S&P estimates that the shadow inventory backing just private-label residential mortgage-backed securities (RMBS) will take nearly three years to clear at the current resolution rate.

The ratings agency defines shadow inventory as properties that are 90 or more days delinquent, in foreclosure, or REO, but that haven’t yet hit the market. S&P concludes that the original principal balance of this inventory overhang amounts to roughly $480 billion, or 30 percent of the entire private-label, non-GSE market.

“Given this backlog, we believe that average home prices could fall again if demand doesn’t rise in step with the potential influx of supply,” said Diane Westerback, a credit analyst with S&P.

The report notes that although shadow inventories remain well above historical averages in most regions of the United States, inventory levels and trends among cities varies significantly.

Standard & Poor’s review of the 20 major metropolitan statistical areas (MSAs) included in the S&P/Case-Shiller Home Price Indices revealed that inventories appear to be falling from recent peaks in some areas while plateauing at historical highs or continuing to rise in others.

“For instance, we estimate that the shadow inventory in the New York City metro area will take the longest to clear – at 103 months – assuming the current liquidation rates,” Westerback explained.

“This is almost 3.5 times our estimate for the national average, at 34 months, and far exceeds the level for the Phoenix metro area, which has a projected 16 months of inventory to clear, the lowest of the 20 MSAs,” she said.

Standard & Poor’s analysis included all first-lien, prime, Alternative-A, and subprime mortgages that appear in non-agency RMBS transactions.


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