How the Mortgage Delinquency Rate Affects the Real Estate Market

In an economic downturn, the mortgage delinquency rate rises as more and more people are late on home payments. One month late is considered delinquent. Three months late is seriously delinquent. Six months can lead to foreclosure. But what does the rise in the mortgage delinquency rate mean for the real estate market?

Tighter Credit

All lending is based on the perception of risk by the lender. In good economic times, lenders perceive less risk. They loan more. Requirements for borrowing are less strict. Loan terms are more flexible. In some ways, this is the seed that will grow into a rising mortgage delinquency rates because competition among lenders means more and more marginally qualified buyers will have loans.

The reverse becomes true as the economy begins to turn down. With mortgage delinquency rates rising, lenders perceive higher risk and are less willing to lend. When they do lend, they require higher collateral and greater proof ability to repay. The result is tighter credit.

Lower Prices

Oddly, even as credit gets tighter, homes become less expensive. Why? Because as mortgage delinquency rates rise two things happen. 

First, it is a reflection of overall lack of spending power meaning fewer people are buying homes. (This is heightened because credit is tighter as well.)

Second, unsold and foreclosed homes begin to flood the market. With less demand and greater supply, home prices start dropping. For a while, at least, this increases the mortgage delinquency rate because those on the financial edge who need to sell to avoid delinquency find it harder to do so.

Fewer New Homes

The mortgage delinquency also affects new home construction. As delinquency rates rise, more people try to get out of their homes putting more used home on the market at lower prices. People still able to buy a home often find a better deal than with a new home. Homebuilders’ inventories rise and construction slows down.

The tighter credit which, as outlined above is impacted by the mortgage delinquency rate, also impacts homebuilders, making it harder for them to fund spec homes.

More Bargains

A rising mortgage delinquency rate is bad news for those falling delinquent, for lenders holding the notes and for homebuilders facing higher inventories. But it’s not all bad news.

As prices fall and those in danger of become delinquent need to sell, there are an increasing number of bargains out there, often in very good locations. For those who can buy in the trough of a mortgage delinquency cycle, they get a home at a low price and then ride the value up when the market turns around.

Lower Interest Rates

Here is where the economic cycle begins to cycle back around. A rising mortgage delinquency rate means fewer borrowers are in the market and lower loan amounts when borrowing is done. This reduced demand for borrowing makes little impact at first because lenders are reluctant to lend. But as the mortgage delinquency rate peaks, lenders become more confident and must reduce interest rates to attract the limited number of borrowers. This can turn the down cycle into a rising housing market.

Key words: mortgage delinquency rate