The Fed’s July 2008 Senior Loan Officer Opinion Survey, which covered 52 domestic banks and 21 U.S. branches and agencies of foreign banks, found that 75 percent of those banks had tightened lending standards for prime loans since the previous survey, in April. Standards were tightened even more for “nontraditional” loans — 85 percent of banks that originate that type of loan said they had tightened standards on those loans. And six out of seven banks that originate subprime loans said they had tightened lending standards on those loans in the last three months.

The outlook for the remainder of the year isn’t much friendlier for easy financing. About 45 percent of loan officers from domestic banks said they expected their banks to tighten lending standards on prime home loans in the second half of they year, and about 65 percent said they expected standards on nontraditional and subprime loans to continue to tighten during the same time period.

It’s good that banks are adopting more stringent lending guidelines than the virtually nonexistent ones they employed with the 2005 to 2007 vintage mortgages —  which turned out to be highly susceptible to foreclosure. But could the banks be overreacting with these tighter lending standards and thereby prolonging the housing slump? Or is this exactly what the market needs to ensure that home prices stay grounded in the reality of what homebuyers can truly afford?

Homeowners across the country may be feeling a bit like Mel Brooks’ character from his movie “High Anxiety” now that Standard and Poor’s has released its May numbers for the S&P/Case-Shiller Home Price Indices.

In the movie, Brooks’ character nervously sweats every time he even thinks about getting into an elevator. Well, the nation’s homeowners are sweating it out now, being taken on the descending elevator ride of their lives, especially those living in markets that experienced the largest gains during the boom years and are now freefalling deep into the elevator shaft.

The S&P figures for May show declines in all 20 metro areas reported for the second straight month — nine with record lows and 10 in double digits. Home prices in its original composite 10 metro areas fell to a new record low, down 16.9 percent from a year ago, while its composite 20 metro areas also reported a record yearly decline of 15.8 percent.

Biggest decliners on a yearly basis were Las Vegas (-28.4 percent) and Miami (-28.3 percent), followed by Phoenix (-26.5 percent), Los Angeles (-24.5 percent), San Diego (-23.2 percent), San Francisco (-22.9 percent) and Tampa (-20.2 percent).

Detroit was down 17.4 percent from May 2007 to a level below where home prices stood back in January 2000.

Washington, Los Angeles, New York and Miami are highlighted in a S&P press release as the best performing markets overall since January 2000.

On a monthly basis, from April to May the worse decliners were Miami (-3.6 percent) and Las Vegas (-2.9 percent).

“The overall real estate market continued to slide in May, with the 10-City and 20-City Composites declining by 1.0 percent and 0.9 percent for the month respectively. Since August 2006 there has not been one month where we have seen overall price increases, as measured by the two Composites,” said David M. Blitzer, Chairman of the Index Committee at Standard & Poor’s, in today’s release.

With home prices continuing to decline, both on a monthly and yearly basis, it stands to reason that distressed homeowners are not out of the woods yet if they need to sell their homes to escape foreclosure.

For potential homebuyers, investors and real estate professionals, it means the flow of foreclosed properties should continue into the indefinite future — at least until home prices stabilize somewhere down the abyss and reverse their direction back up the elevator shaft.

And while this upward trend in foreclosure activity is driven largely by a few populous states with volatile housing markets, there’s no doubt the pain is spilling over into many other areas across the country.

“Forty-eight of 50 states and 95 out of the nation’s 100 largest metro areas experienced year-over-year increases in foreclosure activity in the second quarter,” said RealtyTrac CEO James J. Saccacio in the press release announcing the Q2 report.

State governments that have gotten past the denial stage and actively addressed the foreclosure issue seem to be reaping the benefits of such foresight. One example is Colorado, whose foreclosure rate ranked No. 1 among the states in 2006, according to RealtyTrac. Some state officials initially took issue with the numbers, which engendered an important debate on how to accurately interpret and measure foreclosure data. But ultimately state officials took action by first investigating the foreclosure data themselves and then by working to curb foreclosures. The Colorado Division of Housing set up a foreclosure hotline to help people facing foreclosure. The state government enacted new laws addressing the issue, one of which gave homeowners more time on the front end of the foreclosure process to try to work out a way to stop or avoid the foreclosure.

Colorado’s efforts appear to have had an impact. The state’s foreclosure rate was down to No. 5 in the second quarter thanks in part to a 15 percent decrease in activity from the previous quarter. Activity was still up on a year-over-year basis, but at a much slower pace than the increase nationwide.

Late to the party as usual, the federal government is now trying to address the foreclosure issue as part of the mammoth housing bill making its way through Congress this week. President Bush has said he will sign the bill, which would allow many homeowners facing foreclosure to refinance into lower-cost, government-backed loans. The bill also earmarks $4 billion in grants for local communities to buy up foreclosed properties that may be negatively affecting the communities. Whether this bill will actually slow or stop the trend of rising foreclosures is up for debate. We’ll certainly be watching to see if the third quarter foreclosure numbers translate into a ninth straight quarterly increase.

But real estate — housing prices to be precise — is the sign that forecasters at the A. Gary Anderson Center for Economic Research at Chapman University are looking to lead the way back to prosperity.

In their June 2008 issue of the Economic & Business Review, the U.S. Forecast article for 2008-2009 is entitled, “The Recessionary Outlook: Housing Prices Will Determine Its Length and Intensity.”

“The Fed has moved aggressively into a stimulation mode,” said Chapman University President James L. Doti in presenting the national forecast to attendees of the university’s forecast update conference. “There’s no question that the Fed needs to dig in because of the potential for inflation.”

Banks are holding back on all types of lending, the report notes, and probably for good reason considering the $300 billion in write downs already taken by the nation’s financial institutions, with the prospect of more on the way, depending on which direction home prices go in the future.

Median home prices have already dropped 13.6 percent from their peak of $227,333 back in Q3 2005. “The most dramatic decrease since the Great Depression,” Doti noted.

The housing “bubble” which occurred due to the abuse of subprime and other exotic financial vehicles has now burst, causing home prices to decline back to the level where housing affordability is back to the level it was before the subprime boom hit (a home price to income ratio of 3.3), the Chapman report notes.

Other highlights of the Chapman forecast update are:

• The annual number of housing starts has reached a recent low of one million units. So pent-up demand for housing will increase and quickly cut into the 10+ month inventory of vacant and unsold housing
• The lagged effects of the housing price drop has reduced household wealth by $2 trillion. This is expected to reduce consumer spending by about $100 billion.
• The overall impact of the administration’s stimulus checks will be minimal as consumers use a good share of the money to pay down debt
• Housing prices will depreciate 6.1 percent in 2008 with a mild uptick in 2009
• The Fed will raise the Federal Funds Rate by 100 basis points (1 percent) in 2009 which will be mirrored in other short-term interest rates
• Stable to moderately increasing long-term interest rates

“I think it’s going to be a mild recession followed by a mild recovery,” Doti said.

Chapman also has a econometric model in their computer system to predict the outcome of the national election which has a very good record at correctly predicting the next president based on certain economic factors.

As for election 2008, the winner (according to Chapman) will be…..

Barack Obama by a 2.4 percent margin of victory.

What this means for the future of foreclosures in this country? As for the election, it’s hard to tell. As for the economic outlook, if it comes to pass the way the Chapman forecasters are predicting, a mild recovery could lead to a bit of a softening in foreclosure levels. However, this most likely will be countered by the expected reset of interest rates on many more option ARMs this year and next.

Bottom line: we’re not over the hump yet. Foreclosures are here to stay for the foreseeable future.

“The year-over-year increase of more than 50 percent indicates we have not yet reached the top of this foreclosure cycle,” he said.

In fact, the RealtyTrac report has shown month-to-month decreases in previous months, even during the dramatic run-up in foreclosure activity that has occurred over the past year and a half: in February 2008, November 2007, September 2007, June 2007, April 2007, and February 2007.

What may be a better argument — although certainly not an ironclad case — that the foreclosure surge is starting to run out of steam is the trend over the past 18 months in YOY percentage changes, broken down by type of foreclosure filing. As can be seen in the chart below, the default and auction categories experienced double- and triple-digit YOY percentage increases for much of 2007. But the increases in those categories started to slow down in 2008. Meanwhile, REO (bank repossession) activity actually decreased on a YOY basis in January and February of 2007 but gradually started to gain momentum in the second half of 2007, and increases in REOs have far outpaced the increases in defaults and auctions in all six months of 2008.

One could argue that this chart shows that the bulk of the properties that were at risk for foreclosure have migrated through the process and are now being repossessed by the foreclosing lenders. There is not a continued massive surge in defaults and auction notices, so once the lenders have disposed of their REO inventory, the real estate market can start to return to normal. On the other hand, some might argue that many properties are still at risk for falling into foreclosure, but the default notices against those properties may have been delayed by artificial means – for example laws in Colorado, Maryland and Massachusetts requiring lenders to give homeowners more time before initiating foreclosure. Those artificial means may just temporarily be forestalling another wave of defaults that we’ll see sometime in the coming months.

We’d like to hear if you buy into either of these theories or have another theory of your own that explains the foreclosure trends.