What you are describing is the so-called shadow inventory. You are correct in that there are a lot of delinquent loans on the books of the GSE's and private holders of RMBS. However, it has been demonstrated many times that there is very little inventory currently owned by the GSE's or the bank servicers in Maricopa County (the Phoenix market). Because so much information in Arizona is public record, ownership is very easy to track.
The for sale inventory in Phoenix is at near record lows and the market could easily absorb another 1,000 listings a month, because the buyers are there. Prices are up over 30 percent over last year. These increases will not continue at the same pace, but it's obvious there is unsatisfied demand. However, I do not think we will see large numbers of properties dumped on the market.
After several years of fighting a stalling action to avoid a collapse of the entire system, the GSE's and the servicers have regained control of the situation. What will happen over the next few years in places like Phoenix is a carefully regulated release of the properties with incurable defaults through short sales and foreclosures. As the market improves, fewer people will be underwater and eventually the overall problem will cure itself. It will take at least another 5 years, maybe as many as 10 to return to a "normal" market.
With regard to your underlying question, I can only give you my perspective as a long time resident of a very high-cost area (Bay Area) and as an investor for over 15 years in the Phoenix market. Phoenix has been a rapidly growing inexpensive alternative to California, both as a place to do business and as a place to live. The problem is there is no limit to the supply of buildable land. Rent or price too high? Go a little further out. That constrains increases in rents and prices. At the same time, people are fleeing the problems of California. They bring their high wage, heavy regulation attitude with them. That, along with the rising prices of materials and manufactured products, makes Phoenix an increasingly expensive place to operate rental property. The biggest risk to a buy and hold investor is the combination of increasing operating expenses and stagnant rents. That's exactly what has been happening in Phoenix for at least the last 10 years.
In very high cost, high demand areas, your initial investment makes no sense. Your operating expenses will increase with every new regulation or material price increase, pinching your already meager or non-existent cash flow. However, over a LONG time, your rents should increase at least as fast as your expenses. In areas with high demand and serious supply constraints, both rents and property values may increase faster than operating expenses.
So the question really is, what kind of investor are you? If you are patient and not in need of a significant cash return today, buying property in high cost, high demand areas might be something to consider. Many of the Bay Area rental markets are dominated by Asian buyers, who think in terms of generations, not next month's rent check. However, if you want a good cash on cash return today, buy in less expensive markets with diverse and growing economies and have an exit strategy for when your returns drop below an acceptable level. That's what I'm doing in Phoenix.
Make sense?
