THE BLOG
04/25/2013 06:23 pm ET | Updated Jun 25, 2013

How to Fix the Great Real Estate After-Bubble

The Washington Post recently feature an article titled "Wall Street betting billions on single-family homes in distressed markets." The article states, "Drawn by the prospect of double-figure profit margins on rents and the resale of homes whose prices plummeted in the crash, hedge funds, Wall Street investors and other institutions are crowding out individual home buyers." The March-April issue of Dollars & Sense Magazine asks "Whose Housing Recovery?" The article points out:

"The millions of foreclosures since 2007 represent a massive upward redistribution of wealth. Millions of families have lost or are on the verge of losing their single largest asset, which has served as a source of security and access to credit. Neither they nor those who would normally be likely first-home buyers are able to buy."

There's an additional reason the Wall Street property grab will injure struggling homeowners: Single family homes make a truly lousy absentee investment. Many of us who have become accidental landlords -- after moving or the death of a parent -- have learned that management easily becomes a nightmare. The very nicest people can turn into "tenants from hell" -- such as drug addicts. Then there's the rent. "My check bounced? Are you sure? I promise I'll get you another check as soon as my paycheck comes in." Worse, there's maintenance. "I know it's three AM, but my toilet is plugged up and overflowing." "Have you tried using the plunger?" "I shouldn't have to; you're the landlord!" Or, "The dishwasher sends bubbles foaming out onto the floor?" "Did you use dishwasher detergent, or laundry detergent?" Or a call from a neighbor, "They're having a party and throwing beer bottles out through the windows!"

Consequently, despite all the tax favors for real estate investment, single-family home rental has remained mostly a mom-and-pop operation. When properties are scattered, supervision becomes just too labor-intensive. Successful owners must be local, available 24-7, and willing to work hard and accept low rewards for their efforts.

So now these big real estate companies think they're going to make megabucks scooping up and renting out tens of thousands of foreclosed houses. Ha! First of all, as long as the economy remains sour, rents will remain low. That's because in hard times, people find it easiest to cut back on rent. They double up with friends; young or middle-aged adults move back in with parents. Second, the real estate companies are speculating on huge capital gains when the housing market recovers. Yet in the very act of bidding up home prices now, they're making those gains less likely. Third, they will run aground on maintenance. Construction during the bubble years 2002 to 2008 was especially shoddy. Then, as the owners struggled and fell behind on the mortgage payments, they stopped making repairs. After the banks foreclosed, many of the homes were vandalized -- empty homes make inviting targets. If the banks couldn't manage the foreclosed properties, will the big real estate buyers do much better?

What will happen? The after-bubble will go bust. The real estate companies will eventually sell off their investments at a loss. By then many of the houses will be damaged beyond repair. More and more neighborhoods will become ghost towns.

What could prevent this disaster? Homeowners who bought or refinanced during the bubble period up to 2008 found themselves "underwater" after the crash, owing more on their mortgages than the value of their homes. The lost value is gone -- or rather it wasn't there in the first place. Many homeowners have defaulted and gone into foreclosure; many more will default in coming years. Banks could prevent these foreclosures by writing down mortgage principal to the new low market value. There's even a Treasury and Housing Department Principal Reduction Alternative program to help homeowners get a write-down from banks; it's not working because it's voluntary. The big banks, though they have been willing to lower interest payments, understandably fear that mortgage principal write-downs will set a bad precedent. They'd rather foreclose and sell to the real estate companies.

Congress could remove this obstacle by legislating a mandatory write-down program strictly limited to those owner-occupants who purchased or refinanced during the bubble years before 2008. Otherwise the senseless destruction of lives and housing will continue.