Distressed Properties: Expectations and Impacts

Concerns over distressed property sales and the shadow inventory continue to have a negative impact on housing markets.

Palm Coast, FL – June 17, 2011

Distressed Property and the Real Estate Outlook

Concerns over distressed property sales and the shadow inventory continue to have a negative impact on housing markets. Participants in our REALTORS® Confidence Index (RCI) survey indicate that foreclosures and short sales are causing home prices to decline. They also report buyers demanding major discounts on all types of properties—regardless of whether those homes are distressed or not. The result of a seller deciding not to offer a major discount on a prime, non-distressed property is a potential buyer moving on to another property.

Real estate markets appear to be affected by a major dichotomy of expectations between buyers and sellers:

    “More transactions would occur if buyers and sellers were more realistic.”

    “Buyers expect everything to be on sale regardless of condition or whether the property is distressed.”

Distressed properties are substantially different from non-distressed properties. Our market analyses indicate that non-distressed properties sell at a higher price than distressed properties and also tend
to be in better condition. However, sales are reported to be slower than normal simply because buyers continue to expect prime properties to sell at major discounts. REALTORS® report that frequently
this leads to a “no-sale” situation.

What are the Market Fundamentals?

A simple extrapolation of historic market trends shows that sales of single family homes decreased sharply with the Great Recession. However, current demographics coupled with decreased new construction are expected to result in a supply deficit of over 600,000 homes per year for the next five years. As we continue to recover from the Great Recession, NAR projects a total of 5.2 million existing-home sales in 2011 and 5.4 million sales in 2012, in comparison to 4.9 million in 2010.

Why Are Sales and Prices Down?

Every month REALTORS® provide us with information about distressed property sales. Based on that information, we arrive at a number of conclusions:

• Foreclosures have accounted for around 22 percent of the total market for the past three years.
• Short sales have fluctuated in the neighborhood of 12 percent of market share for the past three years.
• The average discount to market has been around 20 percent for foreclosures and 15 percent for short sales.

Based on information about the total market for home sales, percentages of foreclosures and short sales, and discount levels, it is possible to estimate the prices of foreclosures, short sales, and non-distressed properties.

The housing market continues to be sharply divided between distressed and non-distressed properties at the national level. In April 2011, the national median price for an existing home was $163,700. The estimated median price for non-distressed properties was $172,200 – significantly higher than the estimated median prices for foreclosures ($146,300) or short sales ($154,900). Such a wide gulf in pricing probably confuses potential buyers.

Property condition affects the discount at which a property sells. For the six months ended March 2011, foreclosed properties rated above average/average sold at a median discount of 10 percent; properties rated well below average and the bottom one percent sold at a discount of 26 percent. For short sales, properties rated above average/ average also sold at a discount of 10 percent; properties rated below average or well below average sold at a discount of 24 percent.

What are the Messages?

Our survey participants report that in many cases buyers expect major discounts, regardless of whether a property is in good or bad condition or whether it is distressed or non-distressed. One major motivator of this buyer behavior is likely the incessant drumbeat of negative media reports which do not accurately compare property and market conditions with market pricing. In many cases sellers are unwilling to complete a sale at an unrealistically low price, resulting in a market that is somewhat slower than one would expect. REALTORS® also report that buyers are very nervous when making offers, frequently citing job conditions and perceptions of declining prices as the important negative factors influencing their actions.

The media has focused on the 35 percent of the market that are distressed properties, the low prices associated with these properties, and the projected size of the shadow inventory. This publicity tends to give potential buyers the impression that “everything is on sale” even though non-distressed properties actually sell for significantly more than distressed properties. Let’s take a reality check.

• The shadow inventory of distressed properties is projected to require three years for resolution at current rates of sale. However, the level of distressed sales is not expected to increase, so additional negative market impacts should be minimal.
• The real estate market is bifurcated: distressed property sells for less than does non-distressed property. In many cases it is worth less due to deferred maintenance and other issues that tend to lower its value. This is why distressed properties are attractive to investors—who have experience in fixing up and renting properties bought at the lower end of the market.
• The job market is a major driver of real estate markets: current economic forecasts are for jobs to increase at a modest but positive rate for the foreseeable future.
• Potential clients considering buying or selling a home will probably find that today’s housing market presents major opportunities given current prices and interest rates. The REALTORS® Confidence Index reports that in general, rents are rising throughout the country.
• Homeowners now hold their houses for more than 7 years, so monthly or yearly fluctuations are not of great importance. The cost of ownership has been at an all-time low given housing prices and interest rates. This is why NAR states that now is a good time to buy.

Source: National Association of Realtors® Research