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The Sneaky Game Banking Giants Are Playing to Suck More Money From the Foreclosure Crisis

Banks are outbidding private equity Funds at foreclosures, believing they can beat them at the pump-and-dump game.
 
 
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It’s conventional to deem local journalism to be dead, but Josh Salman at the Sarasota Herald-Tribune has written well-researched investigative story on bank bidding at foreclosures in his neck of the woods, Big lenders bidding to keep homes, that has national implications.

Here’s the overview:

Banking giants from Wells Fargo to Fannie Mae are routinely paying top dollar on the auction steps to hold onto their own distressed properties, outbidding cash offers and paying well above assessed value, according to a review of thousands of Southwest Florida auction purchases.

They are speculating that the properties will appreciate even more in the next couple of years.

The article does not indicate whether the “banking giants” like Wells Fargo are only bidding on properties where the bank owns the loan or serviced loan for private label (non-Fannie and Freddie investors). We’ll assume only the former.

The degree of outbidding is not modest, at least in Southwest Florida (emphasis ours):

In some cases, lenders this year have bid up to 600 percent more than a property’s worth to retain foreclosures — one of the primary reasons the acquisition costs for competing real estate investors also has spiked in recent months.

In the 12 months ending June 1, 4,865 foreclosures were auctioned in Sarasota and Manatee counties. Lenders outbid third-parties to keep 3,754, or 77 percent.

Banks paid $259.2 million for the properties, an increase of 34 percent from the amount they spent in the same 12-month period a year ago…

“The banks seem to be offering more than they usually would — going for market value and above,” said Shannon Moore, broker and owner of Green Lion Realty in North Port. “I don’t quite understand the logic. It’s a vast shift from the last few years when would take any reasonable amount just to get rid of them.”

Now it’s worth keeping in mind that in the good old fashioned days, when homeowners had equity in the home at the time of purchase and prevailing home prices went down only at most on a regional basis, and then usually not too much, the bank would put in a bid for the home at the courthouse for the value of the mortgage so it would take it into “real estate owned” inventory and dispose of it later if no one was willing to snap it up on the courthouse steps for a high enough price. But analysts would probe banks about their REO inventories, particularly in a weak economy.

But the “paid” is a misnomer unless the bank bid above the mortgage balance to win at the auction, which the article says doesn’t happen that often. So from an accounting standpoint if the mortgage was $160,000 and the highest third party bid was $90,000, the bank could take the offer at $90,000 and recognize a loss of $70,000 plus foreclosure costs. Or it can bid $110,000 and move the property into REO. If I read the OCC guidance correctly, the bank has to value the REO at the lower of the “recorded investment in the loan satisfied” which I assume is the mortgage balance PLUS the foreclosure costs OR fair market value as determined by an appraiser. Gee, we know how independent those appraisers are!

And with appraisers relying on recent sales for valuations….you can see the logic of the bank overbidding on such a grand scale. They can bid up to the mortgage balance and not increase their loss exposure. Overbidding systematically increases the comparable sale prices appraisers will look at to prepare their valuations. And with the banks accounting for 77% of purchases out of foreclosure sales (and foreclosure sales representing 20% to 30% of all sales in these counties), the bank activity can influence appraisals, particularly since one might expect foreclosure sales to be concentrated in certain neighborhoods. And it’s even great enough at 15% to 23% of all sales to move overall price averages and trends.