In real estate, every single action is followed by an opposite and sometimes equal reaction. The news that Bay Area sales of new homes have slowed to their lowest point in 15 years signaled a rise in tension as lenders began to nervously examine their lists of borrowers who have fallen behind on payments.
Let’s take a moment to examine why one area should be affecting the other. Lenders make their money by doing what they do best: lending money to borrowers who pay it back with interest thereby leading to a large profit. There is a certain remorseless logic of specialization in this area which occurs by default.
What I mean by this is that lender’s are happiest when they lend money and collect payments because that’s what their business is really geared up to do and borrowers need to borrow money at a rate they can afford to repay it.
Now the moment you have house sales dropping and borrowers defaulting, lenders begin to get nervous. They get nervous because they sense that the economy is taking a dip which means that those borrowers who are teetering on the edge and are just managing to make the payments and have now fallen behind, and are finding it tougher to make ends meet. You would think, at this point, that the fact that lenders have lent money with a house as a collateral would be enough to take the edge off their nervousness. After all, logic tells you, the moment a house owner cannot make payments and the loan goes into default (and remember these two things do not happen simultaneously, there is a lengthy process involved) the lender will take possession of the house, call foreclosure upon it, and get their money back.
Ok, logic here is wrong. Here’s why: Lenders have specialized. Taking possession of a home and selling it is the worst case scenario for them because they know the have no specialized staff to do this. It is a costly exercise for them in terms of administrative costs, because they are not geared up for selling houses and they will get back in most cases is going to be well below the house’s market value. That means that the moment a lender decides to play hardball with a house owner (who can no longer make payments and take possession of the house), they are losing money and are only trying to decide what is an acceptable loss.
This leads me into the Bay Area news which is bad for those home owners who have fallen behind on their payments and those lenders who have loaned money to them. A slow down on house sales means a slow down on the economy which means a dip in house prices and a buyer’s market. For a lender who has taken possession of a house because the owner defaulted on the payments means that house prices are dropping and their loss is increasing. This makes it more likely for them to foreclose on properties which have not yet reached the normal default stage, because the lender does not want to risk waiting and having to sell the property six months later at a greater loss.
This is bad news for borrowers struggling to make ends meet because the lenders are getting trigger happy and are less likely to listen to a home owner who has fallen behind on their payments. Suddenly, the news coming out of Bay Area is a clear signal that suddenly there is a very cold wind blowing in the home buying business and lenders are getting uneasy.