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United States: Foreclosure Rates, Income, and Home Prices

15 Aug 06

Is there a relationship between personal income, foreclosure rates, and median existing home prices? None of the states that rank in the top 10 for median home prices or median home price growth are in the top 10 for foreclosures as a percentage of all loans. However, 7 of the 10 states with the lowest median home price growth are in the top 10 for foreclosures, as well as in the bottom 10 for personal income growth.

With the housing bubble starting to deflate, attention is turning to the mortgage situation left in its wake. Over the past few years, with home prices at record levels, some home-buyers took advantage of historically low interest rates and creative mortgages to obtain their dream home. Some buyers locked in low interest rates, but others used adjustable-rate mortgages (ARMs) to obtain lower initial mortgage payments. ARMs are different from traditional mortgages with fixed rates, in that payments on a fixed-rate mortgage do not change over the term of the mortgage. Payments on ARMs generally offer a lower initial mortgage payment, but since the interest rate is adjustable, the payment rises and falls with the interest rate. Thus, higher interest rates mean higher payments.

Before the last Federal Open Market Committee (FOMC) meeting, the Federal Reserve had raised interest rates 17 straight times since June 2004, which caused ARMs to increase. For some homeowners, this resulted in a mortgage payment that they can no longer afford—with the possibility, or reality, of foreclosure.

The logic of a housing bubble suggests that homebuyers bid up home prices well past the affordability of the majority of residents in a given area. When home prices in the overvalued area begin to decline to a more normal level, the housing bubble deflates or bursts. The logic would also seem to indicate that areas with highly aggressive increases in home prices should see relatively higher foreclosure rates, since price gains had so vastly outpaced wage and personal income gains. And yet, that is not the case. The following tables provide some evidence to the contrary.

High Home Price, High Income, and Low Foreclosure Areas
Highest Median Home Price in 2006Q1		Highest Change in Median Home Price (2004Q1 vs. 2006Q1)		Highest Personal Income Gain (2004Q1 to 2006Q1)		Lowest Foreclosures as a Share of Total Inventory
Hawaii	$572,085	Arizona	59.9%	Nevada	18.7%	California	0.2%
California	$472,707	Hawaii	58.4%	Arizona	17.5%	Hawaii	0.2%
Washington, DC	$377,009	Nevada	56.3%	Utah	16.3%	Arizona	0.2%
New Jersey	$334,692	Florida	54.8%	Florida	15.2%	Virginia	0.2%
Massachusetts	$331,144	California	51.4%	Wyoming	15.2%	Washington, DC	0.3%
Maryland	$305,842	Washington, DC	49.4%	Texas	15.2%	Wyoming	0.4%
Nevada	$286,994	Maryland	47.4%	Hawaii	14.4%	Nevada	0.4%
Connecticut	$283,839	Virginia	41.9%	Virginia	14.0%	Maryland	0.4%
Rhode Island	$282,866	Oregon	39.0%	Oklahoma	13.9%	Alaska	0.4%
New York	$276,752	Washington	37.4%	North Dakota	13.9%	Oregon	0.4%

Low Home Price, Low Income, High Foreclosure Areas
Lowest Median Home Price in 2006Q1		Lowest Change in Median Home Price (2004Q1 vs. 2006Q1)		Lowest Personal Income Gain (2004Q1 to 2006Q1		Highest Foreclosures as a Share of Total Inventory in 2006Q1
Mississippi	$ 86,227	Ohio	11.3%	Michigan	6.0%	Ohio	3.3%
Oklahoma	$ 92,036	Michigan	11.4%	Iowa	7.5%	Indiana	2.9%
Arkansas	$ 94,235	Indiana	11.8%	Illinois	8.0%	Kentucky	1.8%
West Virginia	$ 95,185	Kansas	12.5%	Indiana	8.4%	Oklahoma	1.8%
North Dakota	$ 99,122	Colorado	12.7%	Minnesota	8.7%	Michigan	1.7%
South Dakota	$102,429	Nebraska	13.1%	Ohio	9.0%	South Carolina	1.7%
Texas	$102,481	Iowa	13.3%	Maine	9.1%	Pennsylvania	1.6%
Alabama	$105,474	Texas	13.4%	Louisiana	9.2%	Iowa	1.4%
Kentucky	$106,312	Kentucky	14.7%	Wisconsin	9.4%	Kansas	1.4%
Kansas	$107,446	Oklahoma	14.8%	Kentucky	9.8%	Illinois	1.3%

Indeed, none of the top 10 states in median home price and/or median home price growth is on the top 10 list for foreclosures.

At the other end of the spectrum, 7 of the 10 lowest states in terms of median home price growth are on the top 10 list for foreclosures. Furthermore, only one state that was in the top 10 for personal income growth (Oklahoma) was on the top 10 list for foreclosures, while 6 of the 10 states that ranked at the bottom in terms of personal income growth were on the list for foreclosures. The implication is that personal income growth (or lack thereof) has a more significant effect upon foreclosures than home price.

Interestingly, the majority of the states on the 10 lowest median home prices, 10 lowest personal income gains, and 10 highest foreclosure rates are clustered in the Midwest. These states not only have low personal income growth, but also low employment growth and high unemployment rates, which also increases the likelihood of foreclosure.

Does this mean that states with high median home price growth and high personal income growth will not see a higher percentage of foreclosures in the future? In fact, statistical analysis indicates that from the period of first-quarter 1990 to first-quarter 2006, median home prices have a statistically significant positive relationship with foreclosures. Therefore, history tells us that as median home prices rise, so do foreclosures. So, despite their greater financial flexibility, some people with ARMs in high-income states will begin to struggle with their mortgage payments if interest rates continue to climb, and, consequently, be forced to deal with foreclosure.

by Ron Thompson

U.S. Regional Services

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