Although the news media is beating the drums of good news once again that the US home prices rose 2.9% in the second quarter of 2009, many economists believe that it is way too early to call a turnaround for the housing market. The reason being is that the number of homes that are worth less than their mortgages has ballooned. This has threatened the economic recovery.
Last week the rate of mortgages that were underwater was at 13%. However, two more new studies reveal that is higher than it was previously believed. A real estate data firm called Zillow stated that 23% of all single-family homes are saddled with mortgages worth more than their present value. This assessment is pretty much pessimistic but many believe that it may turn out to be even an understatement. The German investment bank Deutsche Bank released a report earlier this month saying that 48% of all home mortgages in the United States will be upside-down by early 2011. The historical rate of mortgage defaults has been only 7% but in today’s economy, it is reasonable to be realistic and expect up to 20% of home mortgage default.
Northwestern University actually conducted a research where they found out that even homeowners who can afford to make their mortgage payments deliberately choose to default as their home’s value plummeted relatively to their mortgage. They found that 26% of all defaults that happened across the country December 2008 and also March 2009 were made by homeowners for the reason of being financially “strategic”. In some parts of the country where home prices have dropped significantly of their value, homeowners actually think it was worth the hit on the credit score to just walk away.
The research discovered that as soon as the homeowner’s negative equity hits 50% which is not uncommon, 17% of borrowers choose to default even though they actually can afford their mortgage payments. The consequences of walking away like this are generally limited to a battered credit score for a certain period of years. Although to them, this seems to be a great way out to save their own family by losing their homes, they do not see the bigger picture that every foreclosure drags down the values of surrounding homes and the number of houses foreclosed could snowball as homeowners watch their neighbors default and walk away.
The negative equity will not stop here. It will have a ripple effect that extends beyond the affected homeowners. The lack of home equity puts a damper on consumer spending. Many people used to feel good about their wealth position but now that there is no equity, the consumer spending lowers, which leads to decreased retail sales, manufacturing and in the end increased job losses or reduced income. Soon the cycle of mortgage defaults will start all over again.
