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The rise of negative leverage

The rise of nagtive leverage
by Brad Cartier, posted in Newsletter

The S&P CoreLogic Case-Shiller Index reported recently that home prices jumped again 20.6% year-over-year in March, with Tampa, Phoenix, and Miami leading the highest gains among larger cities. Craig J. Lazzara, Managing Director at S&P Dow Jones Indices had this blunt message for real estate watchers: “Those of us who have been anticipating a deceleration in the growth rate of U.S. home prices will have to wait at least a month longer.”

Alongside record prices, consumer debt is also rising according to the Visual Capitalist. In Q4 2021, consumer debt rose to $15.6 trillion, the largest quarterly increase since 2007.

Consumer debt rising - Visual Capitalist

Source: Visual Capitalist (May 2022)

According to Reuters, the Federal Reserve Bank of New York reports that “mortgage debt climbed to $11.18 trillion at the end of March, and now accounts for 71% of total household debt, the highest share in roughly a decade.” Couple all of this with rising interest rates and homeowners could be in for some debt pain.

For investors, this could point to a situation of negative leverage. According to Jack Rogers of Globe St, “Negative leverage is a phenomenon that occurs when asset prices skyrocket quickly, shrinking return rates for buyers despite record rent hikes. Then interest rates rise quickly, creating an imbalance.”

Simply put, this means that as borrowing costs rise, investors make less money than the banks on their assets despite taking on more risk.

Interest rates

We witnessed a few weeks of slight interest rate declines as inflation was seen as perhaps peaking, however, rates rose again last week according to Diana Olick of CNBC. The 30-year fixed rate peaked at 5.3% in early May, before dropping to 5.09% in early June and now sits at 5.47%.

Interest rates drop slightly - Realtor

Source: (June 2022)

Higher rates will likely cool the hot housing market, but according to Hannah Jones of we are still off from any potential price drops: “This is likely to lead to slower price growth in the not-so-distant future as sellers compete for buyers, finally creating a more balanced market. However, those who are currently home shopping will tell you that we’re not there yet, as still-high interest rates and home prices are creating challenges in finding their ideal home.”

Government inflation data is due today and the Fed is set to make an interest rate announcement on June 14 and 15. According to Bloomberg, a rate increase is expected during this meeting.

Finally, Diana Olick of CNBC also reports that mortgage volume data shows that applications for loans have dropped 14% year-over-year amidst higher rates and prices.

Vacant properties

Amidst talk across the country of vacant property taxes, ATTOM Data Solutions released its quarterly Vacant Property and Zombie Foreclosure Report, showing an increase in both occupied and vacant (zombie) foreclosures.

“259,166 residential properties in the U.S. are in the process of foreclosure in the second quarter of this year, up 12.7 percent from the first quarter of 2022 and up 15.9 percent from the second quarter of 2021 . . . ..Among those pre-foreclosure properties, 7,569 sit vacant in the second quarter of 2022, meaning that the number of zombie-foreclosure properties went up quarterly by 2.8 percent.”

According to Alcynna Lloyd of Business Insider, “There are an estimated 1.3 million zombie homes across the US, and New York state has the highest share. As of 2022, thousands of these vacant homes are sprinkled throughout the state, especially in communities of color.” This is why, in 2013, the state passed the Abandoned Property Neighborhood Relief Act, which incentivized banks and community groups to maintain and rebuild foreclosed homes as affordable housing. Over 11,000 homes have been restored.

Christine Stricker comments on ATTOM Data Solutions’ report, noting that the zip codes with the highest zombie foreclosure rates are heavily favored in the Cleveland, OH, area:

  1. 44112 – Cleveland, OH (32.3 percent);
  2. 44108 – Cleveland, OH (31.6 percent);
  3. 44105 – Cleveland, OH (26.6 percent);
  4. 61604 – Peoria, IL (21.1 percent);
  5. 13601 – Watertown, NY (17.2 percent);
  6. 44110 – Cleveland, OH (17.0 percent);
  7. 44109 – Cleveland, OH (16.4 percent);
  8. 44102 – Cleveland, OH (13.7 percent);
  9. 13760 – Endicott, NY (13.0 percent);
  10. 44120 – Cleveland, OH (12.4 percent).

Rick Sharga, executive vice president of market intelligence at ATTOM, had this to say about the data: “We’re now seeing properties where the borrower was already in default prior to the government’s moratorium re-enter the foreclosure process, and undoubtedly some of these homes will have been vacated over the past 26 months.”

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