The Coming Wave: Short
Sale Tsunami
Over
the past three to four years the housing boom and the refinance boom saw
hundreds of thousands of American homeowners and investors jumping into homes
they could ill afford at the time and now that two year ARM and three
year ARM loans are starting to adjust upwards these homeowners are
feeling more than a little pinch. One time aspiring homeowners and investors
who jumped in with ARM or IO (Adjustable Rate Mortgages or Interest Only
mortgages) are now completely upside down in properties that
are negative cash flowing and in many areas of the country in a price correction
downswing leaving them as far as 30% or more negative from debt to value.
For example in Port
St. Lucie, Florida,
there are literally hundreds of homes with loan payoffs in the 300k to 400k
range with actual current values in the 250k to 350k range. If a lender chose
to foreclose on one of these properties they would never sell it at the payoff
value so would have to take a loss on the market. The down side to the lender
is that the lender now has a black eye because it made a loan on which it later
had to foreclose.
A little known fact to most people, at least outside of the industry, is that
the lender suffers from foreclosing on homes in more ways than one.
To fully understand how the lender suffers you need to know what happens on the
lender "side of the fence".
Firstly, many lenders are not "Direct Mortgage Lenders" (DML).
Instead they make loans from a warehouse line of credit. In
order to keep that warehouse line free and clear so they can make more loans
they have to sell those loans on the secondary market as quickly as possible.
Secondary market buyers include all types of people and companies including DML
companies who have enough assets to portfolio (hold) the loans they purchase
from other lenders (Countrywide, NovaStar). Other
secondary market buyers may include the retirement fund for your local
firefighter's union or even the unassuming fellow down the street who drives a
1992 Volvo but holds $2,500,000 worth of Mortgage Backed Securities (MBS). You
can even buy a mortgage note if you have the cash to do so.
Mortgage Lenders are rated "on the street" by secondary buyers. A
lender who continually sells loans which perform well has a higher rating than
a lender who sells loans which do not perform well. Lenders who originate 
loans
(it's still the originating lender even if a broker actually originated the
loan and sent it to the lender) which go into early payment default
or the dreaded first payment default lose
their rating and cannot sell their loans as readily as they could before the
default.
Lenders who sell on the secondary market like my Novation
depend on what is called lender yield to earn an income. If
that lender has a high rating and has originated only well performing loans
they can price their loans for a higher yield than a lender who has a lower
rating. In fact some lenders submit so many poorly performing loans that they
can no longer sell for a profit and must close their doors.
Lenders need to sell the loans with a high enough yield to cover the
cost of doing the loan which includes any commission or "Yield Spread
Premium" (YSP) paid to the broker and enough to continue doing business so
sales of 105 or 106 or even higher are commonplace. Sales of
103 or less could be harmful to the lender and obviously a sale of 101 or lower
would eventually put them out of business. Those numbers are a
percentage of the loan amount. In other words a loan of $100,000 needs to be
sold on the secondary market for at least $105,000 (105) to make sense. (It is
beyond the scope of this posting to explain why that can be done but just
remember that interest is front loaded on mortgage loans and it should make
sense to you.)
Having written all that I can now demonstrate why Short Sales make
good sense for lenders. A lender will lose money on a short sale to
keep from having a foreclosure on their books so their rating doesn't go down
as sharply as it would for a foreclosure. The lender takes the loss on a short
sale; the investor takes the loss and downgrades the lender on a foreclosure. (I
won't take the time to talk about the caveats of other events or procedures in
this article so if you are familiar with lending and secondary marketing I know
you are think, "Right, but Ken; what if .....?")
The key to successful short sale negotiation comes in having access to or
business partners with access to AVM (the type used by
lenders), contact information at the lender for the
appropriate department or even person, knowing the necessary timing of when
to start a SS negotiation (i.e. Do you have an NOD? What is the
payback power of the home owner? etc.)
If you don't know everything you can about Short Sales next summer
is too late to learn because your competitors will beat you to the
punch. Already today I've had two calls from client's needing to Short Sale.
There is a set of rules and procedures necessary to negotiate a short sale.
Look around and see what kind of information you can find.