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A TRICKY TRANSITION FROM HOUSING STABILITY TO STRENGTH IN 2013 By Daren Blomquist, VP, RealtyTrac Some level of certainty and stability returned to the U.S. housing market in 2012, providing a solid foundation for the market to build on in 2013. But there are still significant risks that threaten this hard-won stability—risks that could trip up some local markets trying to make the tricky transition from stability to strength. Foreclosures' Slow Descent At a national level and in states with relatively efficient foreclosure processes, foreclosure activity will not pose a significant threat to housing market stability. U.S. foreclosure activity will continue its slow descent off the peak of 2.9 million properties with foreclosure filings in 2010 toward a more normal level of around 500,000 properties with foreclosure filings annually—although don't expect to see a completely normal foreclosure year until 2015. Foreclosure Flare-Ups Rising foreclosure activity in certain markets at the start and close of the year could threaten stability in those markets. RealtyTrac expects 2013 to be bookended by two discrete increases in foreclosure activity—a jump in bank repossessions (REOs) near the beginning of the year and a jump in foreclosure starts near the end. The sudden jump in REO activity early on will be centered mostly in judicial states with lengthy foreclosure timelines where lenders are still playing foreclosure catch-up with homeowners who stopped making mortgage payments years ago. These states include Florida, Illinois, Ohio, New York, and New Jersey. The jump in foreclosure starts near the end of this year will manifest in the nonjudicial states of California, Oregon, Nevada, and Georgia, where a recent spate of state legislation and court rulings changed the ground rules of the foreclosure game. By the end of 2013, lenders will adjust to these new 18 ground rules and start forging ahead with foreclosure starts. Price Appreciation Pretenders Home prices this year will break through a false bottom in some local markets where deferred foreclosures are listed and sold in greater numbers. But markets without much foreclosure backlog to speak of will see home price appreciation take hold for the long term. The good news: The latter will likely outnumber the former by a fairly wide margin. Diminishing Foreclosure Timelines As banks work through the foreclosure backlog during the first half of this year— particularly in the judicial foreclosure states— the average time to foreclose will finally turn a corner and start decreasing nationwide. As of the third quarter of 2012, the average time to complete a foreclosure from the first public notice was 382 days nationally. That's the longest timeline since RealtyTrac began tracking this metric in the first quarter of 2007, but timelines have already started to slowly decrease in states like Florida and New Jersey. The shorter timelines will provide a healthy dose of additional certainty and stability for the housing market. Short Sale Staying Power Short sales are proving to be the most efficient way to accomplish a smooth transition from a distressed market to a healthy market. This relatively smooth transition should be preserved in 2013 as elevated levels of short sales help the market continue to recalibrate and absorb the stillrampant negative equity hanging over the housing market and plaguing some 12 million homeowners. Daren Blomquist is RealtyTrac's VP and the company's resident go-to expert on foreclosure statistics and trends. He also serves as managing editor of the company's monthly newsletter, Foreclosure News Report. SETTLING THE DEBATE: PAYMENT SIZE MATTERS, FED SAYS Throughout the housing crisis, policymakers, industry participants, and laymen argued the impacts of mortgage payment size on defaults with individuals vehemently taking sides, claiming greed, neglect, and moral hazard lay in their opponent's argument. The Federal Reserve Bank of Boston recently conducted a study to clarify the effect of mortgage payment size on the likelihood of default, and the researchers concluded "interest rate changes dramatically affect repayment behavior." Traditionally, "the prepayment option makes it impossible to use payment increases to measure the effects of payment changes," the report says. However, the Boston Fed was able to examine hybrid adjustable-rate mortgages (ARMs) that experienced payment declines during the recent economic climate. Researchers compared homeowner payment behavior both before and after payment reductions and compared them with similar loans that did not receive simultaneous reductions. "Our results show that the size of the monthly payment matters strongly for delinquency and cures even for borrowers who are deeply underwater," the Fed study concludes. "These findings, which we argue are consistent with theoretical predictions, shed light on the driving forces behind mortgage default and have a variety of policy implications." According to the Fed researchers' report, a payment reduction of about 2 percentage points results in a 50 percent decline in default probability. A 4 percentage point reduction decreases the likelihood of default by about 75 percent. Even when applied to underwater borrowers, the Fed's assertion that payment size plays an important role holds true. "Even severely underwater borrowers will be much more likely to cure if their interest rate is reduced substantially," the report states. KNOW THIS Nationally, the supply of distressed homes stood at 8.6 months as of October 2012, CoreLogic reports.

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