To approach from a different angle than Bill and comment on some of @Eduardo Cardena post:
I am not sure the unit number of distressed mortgages is correct, seems pretty high. The dollar figure is somewhere in the $700 to $600 billion mark according to recent reports issued by the Federal Reserve Board of Governors for residential real property.
Banks are not the largest holder of mortgages in the United States, have not been for some time. Fannie Mae and Freddie Mac have a market capacity of around $7 Trillion. All of those loans go into securiitized trusts. I think the bank idea is way over used by gurus and bar stool folks trying to talk loud. The big 5 banks make up most of the market and they collectively do not exceed $1 Trillion with BOA being one of the largest holders at $350 Billion. Mind you, that is total mortgage portfolio size, delinquent is a small slice of that and defaulted even smaller. The notion of specialty reserves being a driving force for distressed loan sales is way over used to reality, they figured how to manage that years ago. Fact of the matter, you will likely never buy a loan from any of the top 20 banks, let along the big 5. Counter-party risk is far too high for them to trade with you. They also do not make habits out of selling one loan at a time. The smaller banks and credit unions do not even hold many of their loans and the ones they do are usually pretty solid prime loans. In the event they do get a default, they are not inclined to take much of a discount, there really is no need as the portion of their balance sheet affected is pretty small. This is not the RTC days, the market has evolved.
Further, NPN pricing is not falling, it is rising. It is rising so high that most private investors can't begin to compete. We are seeing NPN trades 20% above median prices of the past. That puts much of the idea of trading for pennies back into trading for dollars. The last NPN trade we looked at for good collateral traded at 75% of RE Value. For a judicial foreclosure. Long time line. Institutional investors attached to Broker/Dealers are using securities to finance these loans pools, the capital they raise is very cheap by doing so and the more of them who get sales traction on those bonds, the more prices are driven up. On any given day, there is more money than loans available. We have to squash the value ideas that are floating around, they are misleading and frankly wrong.
The market right now is private investors are driven into lower value assets. Typically, those lower value assets carry high capital demands, which is what drives the price down. It is a slippery slope to say the least. What does an asset look like that trades for $5k? Well, it is not gong to be pretty. At that level, advances quickly out run the value of the property. Further, if taken back as REO, marketing time is extended as the typical buyer of that REO is an investor looking for a rental property and is all cash since loan amounts at low levels are hard to come by.
I think in general, private investors struggle with NPN pricing. I could probably make the argument that has pushed them into the corner of the market they seem to prevail in right now, which is the lower level value spetrum. The notion that non-performing assets trade for dirt cheap has pushed them into the portion of the market that trades for those levels they are willing or think they should pay. Is there money to be made there? Sure. But let's just be honest with expectations, you are not buying into loans secured by property exceeding $80k most of the time. Again, in Eduardo's example, $5k puts you into someting around $35k to $40k at best. This is not an idea where $5k puts you into an $60k or more property value, when the price is that low, there is something wrong, a substainial defect, that could eviserate your investment if you are talking about a proeprty value above $50k or the value is simply wrong. In other words, a large discount there should be of high concern. Let me point out, I am not saying there are no deals, I am just trying to make sure we have an accurate picture of what the deals actually look like. I hear often from private investors they think loans for sale on some of the exchanges are not so good and the general invetory they have seen is not of great desire or prices are too high. I would correct every private investor who makes such statements, your expectations are simply wrong. You can not buy a pot of gold for a penny.
So, Eduado, riddle me this - what does a deal look like? Why sort of asset do you think you can get for $5k and then have 3 of them for $15k? The servicing costs for those assets is $5k by itself. So now, you only have half your money left. We have not paid taxes, insurance, property preservation or any legal fees. You will be in a NPN longer than you will a fix and flip house. Anyone who tells you different has a hidden agenda. Time increases legal expenses. Here comes winter, lower level assets in the midwest all need to be winterized if they are vacant...$$$. States have adopted some very harsh rules to make sure Mortgagee's do not neglect properties in foreclosure. It would seem, the lower the value of the neighborhood, the more senstive the county and state is to some extent.
The refinance statistic is from 8 years ago and does not remotely hold true today. Further, credit standards are much higher than they use to be so the chances of being taken out by a refinance are pretty low. Let's not forget, the self inflicted barrier of being secured by a property that has a market value less than the conventional loan miniumn (loan min $50k). Refinances do not go to 100% of value. So, hopefully you can see how quickly this idea becomes fleeting. Yes, there are portfolio lenders who make loans below $50k, they tend to be picky on credit.
Modifications are nice. However, I see those distroted a bit as well. A modification is NOT an exit strategy. That makes no sense. An "exit" is when you leave something so using exit with modification is counter-intutive since a modification is an "extention" of credit. The Mortgagee and Borrower are still in the same loan. I suppose if you paid less than a couple of mortgage payments for the loan you are good, otherwise you have barely scratched the surface of recovering your funds. The general strategy we have seen was get in, collect a bunch of money for the modifcation and then try and sell the loan back out in the marekt. Overall the private ones we have seen have been pretty disappointing in terms of mitigating the risk. Many actually increased the risk of the loan instead of diminishing it. If I had to guess, the culprit was over simplifying the idea that X number of payments means a higher bid for the loan. That is an over simplification of evauating the risk of default.
I am not sure what "further exit strategies" would be on a loan where the Borrower is paying as agreed - pre or post modification or none at all. Being paid in full is up to the Borrower not the Mortgagee. A Mortgagee can not force a Borrower to refinance or sell their property. So as far as exit strateies go from the Mortgagee's hand, there is one (1) sell the loan. That is it.
None of this is novel is here to deter a new invetor from getting involved in the asset class. I like loans. A lot. We need more private investment in loans in my opinion. That said, I just want the lights on when folks step on to the field for the first time. Misconceptions, bad information and unrealistic expectations are not good for the market. These are healthy discussions, which is one of the reaons I enjoy BP. I think the mystism around mortgage investing needs to go away and we need to proceed with mature and managed expectations of what it really means to be a whole loan mortgage investor or note investor. Less late night informoercial and more case study class.
