The one stat that just jumps off the page when I look at the data is the months supply of inventory (MSI) here in the RESERVES.  My next observation is one everyone remotely keeping track of what is happening in real estate is; the impact of distressed sales on home pricing.

How to Escape from a Black Hole

MSI tells us how long it will take to sell the current inventory of homes that are for sale at the current rate of sales.  The assumption is we will continue to sell as many this next 12 months as we did the past 12 months.  A big assumption I will go into in another blog.

The MSI for our neighborhood is 24 months.  To give some perspective, Plainfield’s MSI is 13 months.  In the Reserves, currently 14 homes are for sale and this past twelve months, 7 homes sold.  Giving us 2 years worth of inventory!

As for the distressed sales impact, keep an eye on 22604 Reserve Circle.  This home was sold at the height of the “housing bubble” (June 2006) for a price of $406,000.  I believe this is also the most ever paid for a home in the RESERVES.  It is now a short sale at an asking price of $300,000.  Doing the math this gives us over a 25% decline in value since the height of the market.

Instability

If I had to take an educated guess at where we are at currently, I would say we are at 2000 or 2001 pricing level.  Many purchased their homes new from William Ryan during this time period.  22562 Reserve Circle was purchased in 2000 for $250,000 and just recently sold for $242,500.  This was not a distressed sale and broke even for all practical purposes.

The home at 13960 Hunt Club was a total disaster for the bank.  A foreclosure that back in 2000, was purchased by the owners in excess of $300,000.  It sold for $207,000 or at least a loss of 30% from it’s 2000 value!

So if not a short sale and you purchased your home in early 2000s, you have the potential to break even if you sell today.  Distressed sellers would see a 25% loss in value from this same time period.  Single family housing has not fared as well as the townhomes.  However remember this is only me reading the “tea leaves” of data and every real estate transaction is unique.

I am hearing the term “new normal” when describing the current real estate market.  The market during the past three years from the height (June 2006) to the bottom (May 2009) could not be called “normal” because it was changing so fast we didn’t have time for it to be normal.   Prices were declining at a rapid pace.  Foreclosures and short sales were increasing at a rapid pace and unemployment was doubling.

So, if you are buying or selling in this “new normal “ market, what can you do?

The answers are found in the market statistics.  Analyzing data is critical for pricing no matter if you are selling or buying a home.  PRICING MATTERS.

Figuring out the "new normal" market

Housing is Local

First, realize market conditions are extremely localized.  When you hear stats on the national news, these are nationwide numbers.  Meaning our numbers are lumped in with Florida, Nevada, California and then we get an average.  Which, considering those markets, is much higher generally than what we are experiencing here locally?  However, Naperville is holding up much better than say, Plano, Aurora, or Oswego. Why?

In marketing, many products like to have a niche.  It is what makes something special, unusual from the norm.  The same is true in real estate.  In Naperville, it is the school system which makes this city desirable.  Therefore one of the first things you must evaluate is the niche the home is in.  Is it the home’s location?  The schools?  The finished basement when there are few others?

Foreclosures Are Not Going Away Soon

Second, are distressed sales affecting your home’s value? This again, is much localized.  Certain towns in the Fox Valley area are being affected by distressed sales more than others.  Given the current trend in the number of foreclosures, these same communities are going to be feeling the effects for a number of years yet to come.  And we all know what a detrimental effect distressed properties have on real estate values.

Stats You Can Use

Third , are stats that provide information providing direction to  prices.  “Days on market” or DOM is valuable both to one home as well as to the market as a whole.  You do not hear much at all about this statistic but is crucial in understanding local conditions.  DOM is the number you get from calculating how long a home and/or homes in a certain local have been on the market.  It is an average.

A general rule of thumb is the market changes every 21 days.  So are you seeing price reductions every 21-30 days from a seller?  This can tell you a lot about the motivation of the seller.

Another good stat is the “inventory absorption rate”.  Think of it this way:

A grocery store has boxes of cereal on its shelves.  This is the store’s inventory.  The store’s goal is to sell these boxes of cereal before buying any more.  The grocer would like to know how long it will take to sell this inventory at the current rate of sales.

To get this stat, the grocer uses past information to calculate how many boxes he sold during a month.  By knowing he sells for example, 30 boxes per month, or one per day, and there are 240 boxes of cereal on his shelf.  The inventory absorption rate is 8 months.  Meaning it will take him 8 months to sell his entire current inventory.

Now just insert homes in place of cereal and you will get the absorption rate for homes.  Rule of thumb is a number less than 6 months is a seller’s market and anything above 6 is a buyer’s market.

Therefore we now have what is called the “new normal” market:

• Stable home prices but well below the high of the market, causing many homeowners to still be “underwater” on their mortgage
• Foreclosures in the 1 to 1.25  million range
• Unemployment 9-10%, which is double the rate during the Bush years (approx 4.5%)

In my last blog I stated the housing market has a long way to go to get back to “normal” times.  And normal is not the housing bubble days of 2004, 2005 and 2006.  Rather the days of prudent lending and nice appreciation on your home of about 5% a year.  Remember those days?  You were happy then.

My reason for the skepticism is how many homeowners are behind on their mortgage payments and yet are still living in the home.  The bank has not yet foreclosed on them.  (Remember the banks are controlling the number of foreclosures.)  This number is the reason for my doubts about a quick recovery in housing.

Figuring it out

According to KCM/LPS Mortgage Monitor, February 2010, had the following data:

% of Loans Not in Foreclosure with Associated Late Payments

• within the past 6  months  31.5% of all loans have associated late payments
• within the past 12 months 22.% of all loans have associated late payments
• within the past 18 months 17.8% of all loans have associated late payments
• within the past 24 months 24% of all loans have associated late payments

Reading the tea leaves

looking at the past 2 year figure, almost ¼ of all loans are seriously past due!  In the “Mass Foreclosures” article I quoted in the first blog on this topic, states there are 7.3 million loans in some  stage of delinquency, according to Lender Processing Services.

So, using a little math, if there are 7.3 million delinquent, and 24% of these are 2 years late in making payments, this means a very good chance we will see about 1.5 to 1.8 million foreclosures in 2011.

My prediction from looking at this and other data, 2011 will eclipse the 1 million foreclosures many are saying we will have in 2010, which beat the 2009 amount.  2011 will be another record breaking year for foreclosures.  Unfortunately.

What is the result when there is at least 10 times the normal number of foreclosures hitting the market, and it looks like it will continue for a number of years?  PRICING of homes is affected.  Next we will look at pricing of homes in this new “normal” market.  Jump aboard.

Information is Power

it states nearly 528,000 homes have been taken over by banks for the first six months of this year.  At this rate we will eclipse the 900,000 foreclosed homes that occurred in 2009.  To put this number in perspective, in “normal times” lenders foreclose on about 100,000 homes annually.  We are going to have 10 times this number this year!

About 1.7 million homeowners received a foreclosure related warning between January and June of 2010.  The warnings can be first time late payers to those receiving their final warning two years later – they are late in payments and are on a course to foreclosure.  Studies have shown that once a homeowner gets 60 days behind, it is almost a certainty the home is going into a distress sale situation.

Now if 1.7 million homeowners are on this path, and the majority will default, (let’s assume a 75% default rate) that gives us 1,275,000 potential mortgage defaults – AND THIS IS JUST THE FIRST 6 MONTHS OF THIS YEAR!   Annualized we are over 2.5 million potential mortgage defaults.

So why isn’t the number of foreclosures higher?  Because “the banks are really sort of controlling or managing the dial on how fast these things get processed so they can ultimately manage the inventory of distressed assets on the market” says Rick Sharga, senior vice president at Realty Trac, a company which follows distressed sales.

Figuring It Out in today's market

Therefore, if we have a potential 2.5 million defaults, and only 1 million are hitting the market this year, this tells me we have considerable “shadow inventory” waiting to hit the market in 2011 and later.

Shargo states “assuming the US economy doesn’t worsen, aggravating the foreclosure crisis, it will take lenders through 2013 to resolve the backlog of distressed properties that are on their books right now.”

In my opinion housing is not anywhere close to being “normal”.   It could easily be 2015 or later.  If the economy continues as it is currently, my bet is later.

Housing and Urban Development (HUD) Headquarters

Fixed-rate mortgages continue to hover at 50-year lows, thereby supporting home buyer affordability.  Compared to the recent peak in 30-year fixed interest rates 13 months ago (week of June 11, 2009), current rates are a full percentage point lower.

To give you an idea of what this means to a buyer today compared to a year ago, today’s home buyer would save about $1,500 in payments each year on a $200,000 loan compared to what a home buyer paid last June.  Saving $1,500 a year for 30 years amounts to $45,000 today’s buyer will save with these UNBELIEVABLE rates!

The $50 dollar question is, “how long will rates stay this low?”.

Now what economic news is coming out this next week that we should be watching that helps us answer this question?

1. Housing starts data comes out on Tuesday and the general consensus is a 0.5% drop.  Housing starts data is a leading indicator of the state of our economy meaning consumers tend to hold off on the purchase of new homes, new cars, and other big-ticket items if they are worried about the future of the economy.
2. Existing home sales comes out Thursday.  Expectation is a 9.7% decline in this number due mainly to the expiration of the home buyer tax credit program.

From my view of the market, being in the trenches everyday, housing starts I believe will be lower (closer to 1% if not more of a drop) and I would say the existing home sales being down 10% is pretty much right on.

Prior to purchasing Carol, I had my home inspector take a look at the home.  I did not have him prepare a written report because with most distressed property sales, it is sold “as is”.  The bank was not going to reduce the price if I came back and said, the roof is leaking I want a $10,000 credit.  So I saved money since he did not have to provide me a written report and his insight was most useful.  It provided me what needed to be done from a home inspector’s eyes.  Because when I sell it, you know the buyers are going to have a home inspection and this helps prepare the home for sale.

In addition, on the major renovation projects like replacing the windows, appliances, etc., I did have  quotes from contractors before I submitted my offer to the bank.  So with the home inspection completed and my major renovation tasks budgeted, it was now time to prepare my budget and my offer.

Entry foyer before renovation

I prepared my budget by room.  For example the living room:

·         New hardwood flooring with base/trim $600

·         Replace window  $400

·         Paint  $50

This helped me in not forgetting things but it proved unwieldy when allocating costs.  For example the paint I purchased all at once so to say I used $50 in the living room was hard.  Next time I will just have a paint budget and assign all my paint costs to that one category.  Also, by using standard measures like square footage, you gain useful information for your next flip.

As with most budgets, expenses are always higher than anticipated.  I included a 15% miscellaneous factor to cover the unseens.  And I did have some like when I removed the wallpaper, the paper backing on the wall board came off, resulting in me having to drywall the entire walls in some rooms.  I was not anticipating this however my “miscellaneous” account was able to absorb this without taking me over budget. 

Downstairs bathroom before renovation

In summary, the tighter you can get your major expenses, the better you will be since many unforeseen items will pop up.

NAR Green Designation Realtor

This is the only green real estate professional designation recognized by NAR.

I am trained in understanding what makes a property green, helping clients evaluate the cost/benefits of green building features and practices, distinguishing between industry rating and classification systems, listing and marketing green homes and buildings, discussing the financial grants and incentives available to homeowners, and helping consumers see a property’s green potential.

As a NAR Green Realtor, I have the knowledge and the tools necessary to help clients realize their green real estate and lifestyle goals.

Construction waste debris is the area that I could handle better on my next project.  We filled a 30 cu yard dumpster with debris we cleared from the house.  And we still needed another one!  You need different dumpsters for construction waste and yard waste.  The disposal rates are different also.

The changes I would make going forward are:

• separate the metals, and other recylables (I started doing this later)
• do not cut the landscape waste until you are ready to remove – by doing this you avoid handling it twice
• renting a grinder/chipper and recycling the cut wood as mulch (I did do this however make sure you rent the correct size grinder otherwise it goes very slow)
  

  Renovation requires construction waste disposal

• plan on renting a dumpster at various times during the project renovation
  

  Recycling to use as mulch

What everyone saw

The first time I walked into the home, I saw the potential this home had.  Now all I had to do was to get the bank to accept a price which would allow me to create that happy story.   Negotiating with the bank is not an easy task.  In a future blog I will go through the negotiations to shed some insight into that process.

To be able to “flip” a home, you need to have the ability to imagine what the home will look like; not how it looks now.  Because I can guarantee that in its present condition, it is most likely very ugly and in need of TLC.  In addition you  need to understand your market; who is the potential buyer and what are they looking for in a home.

What I envision it to look like

For 1316 Carol, Naperville (aka “Carol”,  my name for the flip) my market is the first time buyer.  In fact I can imagine in my mind the family that is going to buy Carol.  Their needs are:

• wanting to live in Naperville because of the schools
• because they have a 5 year old child who will be entering first grade and they have another child, most likely two or three in age
• and because of time constraints, budget, etc., they want a home that is move-in condition
• with up-to-date features like stainless steel appliances, hardwood floors and a nice yard

With this in mind, I start my “flip”.

My palette, so to speak

So here is the journey of one such house; the “FLIP” at 1316 Carol Lane in Naperville, IL.

Exterior view showing the overgrown bushes and lack of curb appeal.

I started this journey by spending countless hours in front of my computer screen scouring the MLS records and looking at hundreds of homes.  To be successful in this real estate market, you must do your homework.  It is an unforgiving market and mistakes will not be erased by rising home prices like we had a few years ago.

The first choice I had was which community was I going to to purchase my “FLIP” in.  I chose Naperville for a number of reasons.

The first is the fact the city continues to rank very high in the MONEY magazine of great places to live.  This helps given the number of transferees we have moving to the area they are inclined to chose Naperville as their home.

Second is the schools.  People move to Naperville for the schools.  There are two school districts in Naperville:  District 203 and District 204.

Bushes grow up and if not maintained can over power your curb appeal

There are other reasons as well, such as the outstanding parks and libraries and the downtown Riverwalk to name just a few.  When people are unsure or frightened, there tends to be a “flight to quality” so to speak and I felt given this real estate market, Naperville has a much better chance to sell than some of the surrounding communities.

So in summary, one of the oldest truisms in real estate is LOCATION LOCATION LOCATION and Naperville fits this one to a “t”.  Next, the insides of this foreclosured home is revealed.

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