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Foreclosure and severely depressed homes, a prime target during the recession, dropped to 20 percent of home purchases during the 3rd quarter of 2011. This encouraging picture is the result of a variety of factors, none of which, unfortunately, signal a strong real estate rebound.

Foreclosure activities from Miami to Los Angeles have decreased. As more major mortgage lenders undergo legal scrutiny for legally invalid foreclosure procedures and document signatures, banks focus on exercising more care in preparing foreclosure documents and procedures. Lenders have learned that inciting the due diligence of the government into their collection, foreclosure and short sale activities is not a profitable strategy.

Much of this decline also reverts to simple Economics 101–supply and demand theory. As the supply of “X” increases, while demand decreases or stays the same, the price of “X” invariably drops. Conversely, when demand outstrips supply, prices increase. For example, just one year ago (3rd quarter 2010), bank-owned property and short sales represented 30 percent of residential property sales. South Florida and California were particularly hard hit by this activity.

However, lenders are strengthening their foreclosure procedures and policies. This indicates that home foreclosures may increase in 2012. Some predict a 25 percent increase. In normal economies (remember those?), even people filing bankruptcy typically tried to save their homes from the auctioneer’s gavel. Unfortunately, although the number of bankruptcies–at very high levels since 2006–is declining, many homeowners are still “under water” with their property (mortgage balance higher than fair market value).

Hopefully, this combination of renewed foreclosure activity will not spike sales of distressed properties, reducing market prices of real estate even further. What are your views on the U.S. residential home market today?

Source: Bloomberg, “Foreclosure Properties Fall to 20% of Home Buys,” Dan LevyJan 25, 2012