People love to overpay for homes in California. It seems to be a rite of passage. Even if it meant that someone needed to go into a property with the leverage only available through an Alt-A or option ARM toxic loan. People don’t get that some cities still have a tremendous amount of shadow inventory and that prices will come down unless the economy improves and improves significantly. Yet I understand that statistics don’t drill down into the personal reality of what is happening on the ground. So today, I will show you that all in one block (3 nearly identical homes in size and room) we have shadow inventory, an overpriced home, and a rental reflecting the realities of what homes are really worth.
Today we salute you Cerritos with our Real Home of Genius Award.
The Home for Sale in Cerritos
Cerritos currently has a median home sale price of $610,000. This is simply absurd given that the average household income is $89,000. This is the prime example of a shadow inventory city. Each shadow inventory city has a unique attribute that people think is unique to the area. Pasadena has the idea of the Rose Bowl and the allure of it being close to L.A. and Cerritos has the draw of quality schools. But that in itself does not sustain an area if incomes don’t match up to housing values.
The above home is 1,106 square feet with 3 bedrooms and 1 bath. It has been listed on the MLS for 9 days. The current list price is $549,000 so if you look at the city median price, this seems to be in line with that figure. But again, this is simply another area that is in a deep bubble and will correct in the next year or two. Why?
Because only a few houses down, we have a home that is scheduled for auction and a rental that shows a very different market:
Let us first look at the home that is part of the shadow inventory. The data on the home scheduled for auction is nearly identical with the home that is for sale. It is a 3 bedroom and 1 bath home. It is listed at 1,100 square feet so this area seems to be a suburban box neighborhood where many homes are built nearly the same way. The home for sale was built in 1969 and this foreclosed home was built in 1970. Let us look at what occurred on this property:
This home was bought during the peak of insanity for $630,000 in 2006. This was a 100 percent financing deal. They took out a first mortgage of $503,900 and a second of $125,900. Greenpoint Mortgage by the way was a toxic mortgage superstar. So now after three years the home is scheduled for auction. When the notice of default was filed in October of last year the borrower was already behind by $37,447. The auction was only scheduled a couple of weeks ago. This home is nowhere to be found on the public view. Keep in mind a few houses down the other home above is being sold for $549,000.
You can see the problem already growing. This home if it were to be added to the inventory would add pressure to the price of the other home. Clearly the current borrowers have stopped making their payments. So who really knows where this is at but this is a clear case of shadow inventory.
But let us run the numbers on that $549,000 home if we go with 3.5% down and a wonderful FHA insured loan:
First, you will need a household income of $154,000 (nearly twice the average for the city) to qualify for the loan. Next, your monthly housing payment (PITI) is going to come out to be $3,600. But did you notice that the above rental is going for $2,150? You are paying 40 percent more per month to own the home ($1,450 more per month). This is insanity. It will always be more expensive to own, that is correct. But nothing like this. In other words, this area is in a gigantic bubble. Keep in mind your total housing payment is coming out of your net income. All your wonderful tax subsidies and breaks come at the end of the year when you file your taxes. The rental rate is more reflective of the actual local market because it is subsidy free and what a local area renter is able and willing to pay out of their net income.
Let us now look at the rental:
The rental is identical in size to the other two homes. A 3 bedrooms and 1.75 bath home listed at 1,100 square feet. This is an excellent example of what is going on because we have virtually three identical homes all in the same block but telling us very different stories. You would have to be out of your mind to pay the current price. You would be buying at a peak low in mortgage rates in an area that can clearly only support a rental income of $2,150. Think about that. No investor in their right mind would pay this amount. And rates will go up. Just look what happened to the markets today once people realize a country can’t pay their debt (hello California!). If you bought this home as an investor, you would be negative cash flowing by over $1,000 per month depending on your down payment. That would be a dumb move right off the bat and keep in mind, for investment properties the interest rate is much higher and you have to go in with at least 20 percent down. This is why I believe we are far from a bottom in many markets that are filled with shadow inventory. And let us run those numbers.
Cerritos in our last month of data had 21 homes sell. The MLS has 49 homes listed. Not bad right? After all, that is about 2 months of inventory. But let us run the shadow inventory numbers:
Notice of defaults: 83
Auction Scheduled: 143
Bank owned: 16
242 homes in the shadow inventory versus 49 homes on the MLS. In other words, you would be speculating into a bubble area right now if you decided to buy.
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