Short Sales Pressure Home Prices

NEW YORK (CNBC) -- Home prices fell 6.7 percent in February year over year, according to a new report from CoreLogic(CLGX_) . That number includes distressed sales, that is, sales of foreclosed properties or short sales, where the bank agrees to let the homeowner sell for less than the value of the mortgage. If you take those sales out, however, home prices were basically flat.

"When you remove distressed properties from the equation, we're seeing a significantly reduced pace of depreciation and greater stability in many markets," notes CoreLogic's chief economist Mark Flemming. "Price declines are increasingly isolated to the distressed segment of the market, mostly in the form of REO sales, as the stock of foreclosures is slowly cleared."

Distressed sales, though, still make up more than a third of all home sales, according to the National Association of Realtors, and that number is likely to rise at least in the near future. The banks have slowed the process of foreclosure, and that has reduced the number of bank owned properties hitting the market lately, but it's a whole different story with short sales.

"Absolutely we can see on the ground, it's just happening," says Robert Cruz, a real estate broker just south of San Francisco who deals primarily in short sales. "The banks are asking us to go out and engage the borrower, find the borrowers who have defaulted or re-defaulted and list the properties before they have to foreclose."

Short sales used to be a long, tedious process with a very low success rate. "Short sales used to be a waste of time," Cruz remembers. "Now it's totally changed."

Much of that is due to banks streamlining the process and a new government incentive program, but much of it is coming from the banks themselves. Cruz says in the first quarter of this year his firm's short sale closings were up at least 60 percent, thanks to the banks and servicers being far more aggressive in pursuing them; not only are they pursuing them, but they are paying for them. While the government's Home Affordable Foreclosure Alternative Program offers borrowers $3000 in "relocation assistance" after successful short sales, Cruz says some of the banks are paying borrowers up to $25,000. He says the banks know thesellers are more savvy today and know they can live rent free for at least a year before a bank takes possession of the home in foreclosure. $3000 isn't much incentive to move quickly; $25,000 is.

"It's a sea change," adds Cruz.

So why am I telling you all this? Because if short sales continue to increase at this rate, even just this year, that's going to push the home price numbers down even further. Sure, if you take out the short sales, the numbers will look better, but those big headline numbers generally include short sales, and that will further erode confidence. More short sales will also force organic sellers and home builders to try to compete with lower prices. Short sales may be better for the banks and better for borrowers' credit scores, but they will take their toll on the greater market.