Inventory doesn't show whole housing picture

By DAVID MOON, Moon Capital Management, LLC
March 7, 2010

During the 2003 Iraq War, Muhammad Saeed al-Sahhaf earned the nickname “Baghdad Bob” for his creative press briefings, including famously declaring there were no American troops in Baghdad, as tanks and soldiers toppled a statue of Saddam Hussein on live worldwide television.

Baghdad Bob had a unique ability to create an imaginary alternate reality – and do so with a completely straight face.

He could have worked for the National Association of Homebuilders (NAHB.)

David Crowe is the chief economist for the NAHB. In a February 22 NAHB article, Crowe speculated that the US housing market was in danger of facing a housing shortage.

Yes, shortage.

This forecast is based on the fact that the US is currently building homes at a rate that is well below the historic normal. Interestingly, Crowe defined “normal” as the 2000 to 2003 period.

The last time I checked, the US was suffering from a glut of housing supply, much of it resulting from the construction of too many houses in the 2000 to 2003 time frame.

Home price declines have slowed, but most experts (at least those not employed by housing trade groups) attribute that to subsidized lending and loosened Fannie Mae and Freddie Mac standards. More than five percent of all Fannie loans are now more than 90 days past due, the highest level ever.

Some experts, most notably Warren Buffett, actually project a foreseeable end to the crisis. That is a long way, however, from supporting the case for a shortage of housing.

The largest problem in the housing industry isn’t even the problem that is visible. It is the part of the iceberg that is underwater: the shadow inventory. The National Association of Realtors (NAR) reports that at the end of January there was 7.8 months worth of houses for sale in the US.

What that doesn’t account for, however, are the properties on which the loans are seriously delinquent and those that are already in the foreclosure process but not for sale. Banks often have houses in their Real Estate Owned (REO) portfolios that aren’t yet on the market. There are certain classifications of high-rise condos that aren’t included in the housing inventory. And some homeowners intend to sell their homes, but have pulled their “for sale” signs, waiting for a stronger seller’s market.

All of these houses will eventually be on the market, but aren’t yet counted in the homes on the market. They total an estimated 1.7 million homes.

Don’t expect the shadow inventory to abate any time soon. S&P reports that homes are falling into serious delinquency faster than banks are selling houses from their REO portfolios. Additionally, S&P finds that 70 percent of the mortgages restructured under loan modification programs eventually default.

The banks end up owning those houses anyway, and they will eventually find their way onto the market – further minimizing the likelihood of a coming housing shortage.

David Moon is president of Moon Capital Management, a Knoxville-based investment management firm. This article originally appeared in the News Sentinel (Knoxville, TN).

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