The number of negative equity homes in California declined to 308,900 in the fourth quarter (Q4) of 2016. The share of mortgaged homes stuck in negative equity is 4.6%, down from 6.8% a year earlier. The majority of negative equity homes are located in the state’s inland regions.

A sharp decline in negative equity occurred in 2012-2013. However, the disappearance of speculators (and the rapid price lift they wrought from the single family market in 2014) has led to a more gradual rise in home prices that continues in 2017.

Until wage and income growth match the healthy pace of employment growth experienced currently, end users of homes will remain limited. Expect to see a rise in the number of underwater homeowners as home prices begin to slip in late 2017. The negative equity epidemic will finally cure itself around 2020 when asset inflation once again matches amortized mortgage balances.

Updated March 28, 2017. Original copy published November 2012.

negative-equity-homes-california-q4-2016Chart update 09/20/16

Q4 2016
Q3 2016
Q4 2015
Negative equity homes in California
Share of homes with negative equity

Underwater homeowners are not alone

As of Q4 2016, 4.6% of California’s mortgaged homeowners owed more on their mortgages than the value of their homes. That is, one in nineteen California homeowners with a mortgage is underwater.

These economic tenants are unable to fully contribute to the state’s economy. An excessive portion of their income goes toward paying above market interest rates on their mortgages. Most underwater homeowners make monthly mortgage payments greater than the rental value of the property.

That money is sucked into their black-hole asset, and removed from the economy. Instead of going towards goods and services, the money just makes Wall Street bond market investors richer.

Nationwide, underwater homeowners with one lien on their home had an average loan-to-value ratio (LTV) of 145% in Q4 2016. Those with a first and second lien had an average LTV of 141%.

The negative equity share varies by state and particularly by neighborhood. While California’s share of negative equity homes stands at 4.6% in Q4 2016, the Los Angeles-Long Beach-Glendale metropolitan area is down to 3.0% share of negative equity, with San Francisco-Redwood City-South San Francisco metropolitan area essentially fully recovered at 0.6%.

Up until Q4 2012, any decrease in underwater homes was mainly due to short sales and foreclosure sales. However, the price jump experienced in 2013, particularly in low-tier homes, is credited with pulling many homes into positive equity, accelerating the disappearance of underwater homeowners. This price increase has begun to wane, as it was due primarily to speculator activity, which has substantially slowed down.

As price increases remain gradual through 2016, expect the number of underwater homes to level off before rising again following increased mortgage rates and decreased buyer purchasing power — followed by falling prices likely in late 2017.

The rate of delinquencies, notices of default (NODs) and rising home prices are indicators of when underwater homes will disappear.

Decreasing delinquencies

The percentage of mortgaged homes in California 90+ days delinquent but not yet in foreclosure was down to 1.2% in Q2 2015. The delinquency rate will continue to decrease until the Fed begins cutting back their economic stimulus efforts, expected in 2017.

Fewer delinquent homeowners means NODs and foreclosures will continue to decrease in the months ahead. However, as prices flatten, delinquency rates will decline more slowly, then stop. At some point around late 2017, expect prices to decrease, diminishing home equities.

Related article:

California delinquencies diminish, recovery underway

NODs: approaching normal levels

An NOD is filed when a homeowner is three or more months delinquent on their mortgage payment.

California’s inventory of homes in foreclosure comprised just 0.5% of all mortgaged homes in the state in July 2015. However, as prices begin to fall in late 2017, expect foreclosures and the resulting distressed sales to creep back up. By then, increased mortgage interest rates will have reduced purchasing power for long enough to push down home prices, increasing negative equity and thus driving a modest increase in foreclosures.

Related article:

California distressed sales, foreclosure inventory fall sharply

Prices remain tenuous

Home prices remain higher than last year’s prices, though the increase is markedly smaller than experienced in 2012-2014. Anticipate prices to continue to rise slightly through mid-2017, due to historically-low mortgage rates. However, once mortgage rates rise in 2017 due to action by the Federal Reserve, expect sales volume to drop, placing downward pressure on home pricing 9-12 months later.

As prices rise and fall, homeowners may see their home boosted into positive equity one month, only to fall underwater then next. A sustainable rise in pricing will not occur until it can be supported by end user demand. This will occur around 2019 as jobs fully recover.

Related article:

California tiered home pricing

When will my home (and I) be solvent for good?

Underwater homeowners hoping for prices or amortization will make them solvent will eventually reach their goal. Of course, this will take roughly 10 to 15 years of paying into an underwater mortgage. Eventually, (around 2020 for underwater homeowners who purchased at the height of the Boom), their principal balance and home price will crossover for good. Then, for the first time, their mortgage payments will actually create positive equity. After 10 to 15 years, they’ll finally know the magic of amortization.

The wildcard in this timeline is asset inflation. Home pricing undulates around the historical mean price, at times above and at times below. During a mini-boom bounce, home prices may briefly carry some homeowners out of negative equity. 2019-2021 appears to be set as the next mini-boom on the horizon. Homeowners waiting for market momentum to create equity might sell then. For the stalwart others who continue to pay, see you in 2020 at the earliest.

Related article:

The mean price trendline: the home price anchor