July 18, 2009
Strategic Defaults: Foreclosures Up
New research by Paola Sapienza of Northwestern University and Luigi Zingales from the University of Chicago, provide interesting insight into the foreclosure tsunami.
In the 1990-91 recession the study found that very few people who could afford their mortgage walked away from their homes. The magic number was 10. When equity declines exceeded 10% of the value of the home, owners started to waiver. A 10% loss and the default rate begins to rise. A 50% loss of home value and 17% of all owners preferred default to staying in the game.
The study concludes that in this cycle, a large segment of foreclosures were driven by a different metric. One in four recent mortgage defaults are strategic. Buyers of property make a business decision to walk away because they no longer like the deal. For 25% of all foreclosures, today, its not inability but unwillingness to make payments.
The study makes an interesting observation. The Obama administration is focused on cash flow to owners to keep them in their homes. This study points to a different reason for a large segment of foreclosures. Many people wont stay in their homes when the value of their mortgage exceeds the value of their home by 10% or more.
If the study is correct, then writing down the loan would significantly stem the tide. Since lenders are unlikely to do so, Im betting we will continue to see foreclosures for quite a while.
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Posted by Howard at Saturday, July 18, 2009