Real Estate Trends what can Happen when Equity Turns Negative

It took longer than expected, but finally an article appeared about people walking away from real estate as their equity turned negative (Wall Street Journal, page D1). The story chronicles two people that got caught up in the real estate price frenzy, only now to consider defaulting in their mortgages and/or filing for bankruptcy. In many ways, it parallels the situation that occurred in the US in the late Eighties and early Nineties. In many ways, it doesn’t. Before the various governments here start bailing everyone out, a few points need to be kept in mind.

The first is that, in many cases and certainly in the high growth bubble real estate, is that many of the “walkers” today are not owner-occupiers, but rather investors that got overextended. Fifteen, twenty years ago most people got in trouble were in their own homes, caught up in an extended downward move in real estate prices, exacerbated by over building. The market eventually worked its way out of that (helped in areas like Florida by Hurricane Andrew) but it took time. These days, with information flows much faster, the up and down cycles are shortening. There is a concern that these foreclosures and bankruptcies will force the renters in these investment properties out on the street. If the governments want to step in with moral suasion here (not legislation), go right ahead. Banks should be convinced kicking these people out on the street isn’t in their best interest. At least they are receiving income while the market adjusts to new levels.

The second point is that all the new mortgage options coupled with reduced/ignored credit quality/issues has helped facilitate the problem. While the popular press has focused on the 89 year old homeowner duped into taking out the mortgage they didn’t want or need, the reality is that most people, investors or homeowners, overextended into houses and mortgages they could not afford. If there is fraud involved, by all means go after them. If not, the parties involved need to take their lumps. Again, here is case where the moral suasion of government should be used to renegotiate the terms between mortgagor and mortgagee. Like the other credit issues in the market, there has to be an accounting and a reckoning of the risks taken, on both sides.