Sunday, July 26, 2009

Outer Banks Economy-Foreclosures-Part 2

I promised a series on the Outer Banks economy based upon data and my interpretations; my interest in such kindled by a whopping six additional hours of Econ classes at the graduate school level at ECU, which apparently stimulated my long-sleeping brain. My first attempt revealed how dangerous a little knowledge can be, since I drew conclusions from data that was incomplete. This blog will reconnect my early foreclosure data with some newer numbers in an attempt to show where we are today. I have other data that will show where we have been, and perhaps how we arrived at our present position. Maybe from there we can figure out what comes next.

My builder buddy, Duke Geraghty of Starco Realty and Construction asked that I not spin the data but show true info about the Outer Banks. What we will see here is not pretty.

The first chart shows the number of "bank owned" property on the market as of last week, sorted by list price (not tax value). Remember that this data is merely a snapshot of one day and one day only. It does not track all foreclosures since the downturn became acute in late 2007, nor does it include every current foreclosure. If a bank has not listed the property, is not selling it through MLS, or if the listing agent has not identified the property as "bank owned", it won't show in this data.

When I provided the data on bank sold property last week, I noted the price range was skewed towards the bottom of the scale, indicating more locals and middle class borrowers were affected by the economy. Of course, my data didn't show the bank owned property listed, which might reveal more distribution on the higher end that simply had failed to sell. And this indeed happened. However, the data still skews raw numbers of houses toward the lower end of the scale. Right now, there are 152 bank owned properties for sale (residential only, no lots and no commercial). 91 of those, or 60% are priced at $500,000 or below. Of course, sale price doesn't tell the whole story; a vacation condo could be listed at $300,000, and a vacation home formerly listed at $600,000 could now be discounted to $400,000.

Thus, I went through each of the 152 listings one at a time, noting the location, subdivision, and type. While not 100% accurate, I think I have a very reliable breakdown on vacation rental property vs. primary residences. The following chart is not price-dependent; for example a $1 million home in Martin's Point is counted as a primary residence (or second home) rather than a rental.

Here we see the investment community, in terms of raw number of houses (and also in total dollar value, which is not tracked) make up the majority of bank-owned property, 83/152 or 55%. However, 69 of our listings appear to be primary residences, 45% of the total sample. Given the total number of vacation rental units in our market area far exceeds the number of primary residences/second homes, a belief that the local population was hit far worse than the investor community appears to remain valid. Much research into the foreclosure data gong back to 2007, and tracking of future data will be required to make certain. For example, local workers might have lost their homes first, and rental homes might not succumb until ARM's, interest only, and other types of loans reset. But for now, I am willing to state the local population suffered far worse than the investor since the onset of the housing crisis.

Location of bank owned property is also revealing.

As a single entity, Kill Devil Hills-Colington has a plurality of the bank owned property, with 3o of the 152, or 20%. Virtually all of these are west side permanent residence homes.

Let's look at the numbers that are almost assuredly vacation investment homes. There are 27 in Corolla/Corova; 24 in Rodanthe-Salvo-Waves, and 10 in Avon and Hatteras. That's 40% of the total represented in just four local areas. Both Corolla and Rodanthe-Salvo-Waves experienced some of the biggest increases in housing starts, and both communities were places where homes west of the main highway (in this case, Hwy 12) saw prices which rivaled those in the oceanside communities. This was particularly true in Wind Over Waves, Kinakeet, Currituck Club and the 4WD area of Currituck County. If you compare the "sold prices" of these foreclosures with their tax assessed values, many are going for 70% or less of their valuations. For the future, this information should warn us that if the rental income does not support the sales price, non-oceanfront home prices should be suspect. Market prices in a rising bubble do not reflect true economic value, something even I as a lender lost sight of on certain deals.There is, apparently, some unmeasurable utility to owning oceanfront property, even if it doesn't cash flow enough to cover the debt as these homes have not, to date, been repossessed at the same rate as non-oceanfront.

Secondly, in my personal opinion, both Corolla and Rodanthe-Salvo-Waves lack a sense of a resort community and are not well-developed commercially. While it may be true that visitors prefer the lack of commercialization these two destinations offer compared to the middle beach area (KDH-Nags Head-Kitty Hawk), they no longer represent the "wild" places of years past. One of my friends described Corolla as "soulless", another as "sterile". For whatever reasons, potential buyers seem to agree and owners did not realize the cash flow they were expecting. In Rodanthe-Salvo-Waves, grocery stores are far removed, restaurants are few, and shopping is minimal. When you are paying $6,000 a week to stay in a place like Hatteras Island Estates, one might expect more "amenities" to be available nearby. It appears many of these homes, both oceanside and oceanfront were purchased to flip, rather than being held as long-term investments.

In the future, prices in both areas should be held to the old 10% rule; gross rental income should meet or exceed 10% of the house price, at least for non-oceanfront. And, with appraisals, I'd suggest a different method of supplying "comps" to project rental income. Three or four "comps" may not be representative of a community, and the data supplied to the appraiser by the rental company may be "hand-picked". Given the success of the two grocery store chains in the area, I suspect the price/return on investment of the newer homes is part of the problem rather than the raw number of visitors staying in Corolla. Rodanthe may be a different story, but I believe price/rent ratios will be a prominent factor.

Below I am reprising the chart from the previous post which showed Bank Owned Property Sold, rating by Assessed Value.

As mentioned before, the data is skewed to the low end of the scale. While this data mainly depicts the price points foreclosed properties are selling for, combine the low end raw numbers here ($400K and under) with the homes currently listed for sale that are primary residences, and one can begin to measure the impact on locals. The second chart in this post estimates the number of primary residences at 69 out of 152. On our sold chart, we estimated 54 of 73 were likely primary residences. From the two samples, 54% of Bank owned properties sold or currently listed appear to be primary residences or at least, second homes. Once again, given the distribution of vacation homes versus primary residences, data points to the faclocals are suffering at a disproportional rate during this crisis.

Overall, about 2700 homes are listed on the MLS in the Outer Banks market. Given that 152 are identified as bank owned, roughly 5.6% of current inventory consists of foreclosed properties. The number of monthly listings has been fairly static in the range from 2700-2900 since the year 2007, and the number of under contract homes has also been static during the same time frame---around 150 each month. Thus, there is no reason to believe the present snapshot presented here is much different than the recent past.

While most bankers would be disturbed that foreclosures compose 5% of the current listings, the numbers do not indicate at the present time the area is suffering to the extent other resort areas are relative to investment home foreclosures and price decreases. This is likely due to three factors; 1) the OBX has strong rental revenues compared to Florida and Nevada, which is supporting the underlying mortgages, 2) lenders are willing to extend interest only payment schedules until the local economy recovers, and 3) many loans made under absurd programs such as below market ARM interest rates and negative amortization loans have not reset as of this time. Some of those resets may not occur until the 2010-2012 time frame; at which time neither the rental income nor the values will likely support the loans.

What we can conclude from today, apart from the impact on the local population is the following. As far as sales are concerned, especially with bank owned properties, the "sweet spot" for price points is below $400,000. Secondly, two investment markets in particular were hard hit by the recession--Corolla and the "Tri" villages of Rodanthe, Salvo, and Waves. The public and private sectors would do well to study these two areas and determine why their foreclosures are so much higher than they are in Duck, Kitty Hawk, KDH and Nags Head relative to vacation homes. Was there an oversupply? Are the areas too "residential", lacking in other activities people associate with resort areas. Were projected rentals too high? Have traffic issues finally caused a backlash for Corolla travel? Do the problems on Hatteras Island have any connection to the ORV-beach closing issue? Finally, was the price inflation on housing in both the areas too far out of line? I tend to agree with the latter, but some studies need to be conducted.

Remember, this data is not complete and many other variables could explain the results. And, please keep in mind I estimated the number of primary residences vs. rental homes based upon educated guesses of the observed data. However, at least we now have some picture of the current situation.

The next post will cover in more depth what is occurring locally. No spin, and what I will show is not encouraging. Finally, at heart I am a liberal arts guys, I hate math (I know, strange for a banker), and statistics even more. As a result, I am sure those more well-versed in these matters can construct better models, point out fallacies in my conclusions, or suggest data inputs I failed to consider. Please do so if you can; many locals are anxious to know how we got here and what we can expect from the future. Any contribution to that cause will be helpful to many.


Dan said...

Russ, Very interesting analysis. I own a rental property in Duck and Salvo. Salvo started to build near the end of the up cycle and didn't have a chance to have the "vacationer discovery" happened before things bottomed out. One more thing: I am not so sure you will necessarily see the next "wave" of investor foreclosures in the imminent future. I would have thought you correct until I got my ARM adjustment letter on Saturday where my rate actually DROPPED from 5% to 3.25%. The residential mortgage forclosure may continue to rise because of the hit to the economy. Can't remember the last time I saw that many empty store fronts. Just my two cents.

Russ said...

Hope you are right. We'll know more in the winter. We hear about a lot of vacancies in Duck and Corolla, but its all second hand. Your reset is a good thing. My concern are the interest only or negative ammos where the rents won't cover the P&I payments when they convert. But the best news will be if those foreclosures are a one-time catch-up and they level off--FAST!

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