Anyone's guess--how deeply will foreclosures erode prices?

Source: Wall Street Journal

Foreclosure activity seems poised to pick up, if the start of the year was any indication. LPS Applied Analytics, for example, reported that foreclosure starts were up about 28% in January from the prior month.

Industry watchers say the $25 billion settlement involving five major banks, states and the federal government over processing abuses known as “robo-signing” could play a factor as well. RealtyTrac has noted that lenders may now feel more confident moving forward with delayed foreclosures, creating short-term pain but potentially clearing backlogs of troubled loans. RealtyTrac expects a 25% increase in completed foreclosures in 2012.

This activity could also mean more foreclosures coming on the market for resale. And if so, would that mean bigger discounts for buyers of these distressed properties?

A spike in sales of bank-owned homes can be bad news for other sellers. And foreclosure sales make it hard for prices to rise overall since they boost sales activity at the lower end of the market.

But more foreclosures in some markets this year may not significantly change the “REO discount,” or the average discount on the sale of foreclosed homes.

“More often than not, prices are determined more by demand than supply,” Paul Dales, senior U.S. economist at Capital Economics, wrote in an email. He added that the areas that have more bank-owned properties for sale might also have more demand for those types of properties if they are in good shape and there’s less supply of other properties. And overall, Capital Economics expects that demand will improve this year as the housing market starts to heal.

Indeed, the “foreclosure discount” appears to be lower in many places hard hit by the foreclosure crisis, according to a map built using information from LPS Applied Analytics, which tracks home prices in more than 15,000 Zip Codes across the U.S. The Phoenix metro area had average foreclosure discount of 4.5%; Las Vegas was at 6.1%; and Miami was at 7.1%. The discount was much higher, more than 30%, in other markets, which could be partly due to properties in those areas being in worse shape.

But in a city overflowing with foreclosures like Las Vegas, a foreclosure is often viewed as just another cheaply priced property on the market. “In the places that might have a lot of foreclosures, the property might be fine. It’s just a matter of people walking away from the property,” says Jonathon Weiner, vice president of research and development for LPS Applied Analytics.

To be sure, local conditions differ from market to market, and some places seem to be healing faster than others (see the Journal’s story about the Phoenix market in this regard.) And the foreclosure activity this year will differ from state to state based on whether foreclosures need court approval.

But the bottom line seems to be that more bank-owned properties for sale this year would weigh on prices overall, not necessarily boost the foreclosure discount.

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