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Shadow Inventory Threatens Housing Recovery

Unresolved distressed properties finish last year at $450 billion

Feb. 7, 2011

By staff

A yearend report on securitized loans suggests recent signs of strength in the housing market are only temporary. At the heart of the concern is a supply of distressed properties that have yet to hit the market.

The report was published by Standard & Poor's Ratings Services.

According to the New York-based ratings agency, residential loans that were securitized since 2005 are performing "significantly worse" than issuances from prior to 2004.

At three years' seasoning, the 2007 vintage had a cumulative default rate of 32.91 percent, while it was 34.48 percent for the 2006 vintage.

On just 2007 prime loans, the rate was only 4.49 percent and just 3.34 percent on the 2006 vintage.

But defaults on 2007 Alt-A loans were 26.76 percent, and the 2006-vintage default rate was 23.26 percent.

On subprime mortgages the rate jumped to 57.37 for the 2007 vintage and 51.22 percent for 2006.

S&P also noted that monthly first-default rates improved to 0.98 percent as of December from 1.63 percent at the end of 2009. The biggest improvement was noted with subprime loans, which saw first-default rates fall to 1.97 percent from 3.54 percent.

Re-default rates, meanwhile, improved to 3.62 percent from 7.84 percent on Dec. 31, 2009. The improvement was across-the-board.

One interesting observation is that while the first-default rates on 30-year mortgages outpaced those on 15-year loans by almost five-to-one, re-default rates edged up 1 percent on 15-year loans even though they were 8 percent lower on 30-year mortgages.

Defaults on adjustable-rate mortgages outpaced those for fixed-rate loans by almost 1.66 to one.

The supply of unresolved distressed properties has swelled as cure rates, which are the share of seriously delinquent loans that become less than 90 days delinquent, and liquidation rates have fallen for Alt-A, prime and subprime mortgages -- prompting concern about the actual state of the U.S. housing market.

As a result of the shadow inventory, any positive momentum in home prices might only be temporary.

S&P estimated that the shadow inventory finished 2010 at around $450 billion. That works out to around one-third of all non-agency residential mortgage-backed securities that are outstanding and is a key factor in the slow housing recovery.

"When the backlog clears and the properties
are marketed for sale, we expect home prices to come down," the report said.

S&P joined fellow ratings agencies Fitch Ratings and Moody's Investors Service in announcing the formation of a new constituency group for credit rating agencies. The agencies "welcome the participation of other Nationally Recognized Statistical Rating Organizations."

The news released stated, "The mission of the new group is to develop best practices regarding compliance with regulatory requirements and facilitate communications within the credit rating industry with its various stakeholders."

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