While some analysts are saying that rises in home prices and increased home sales are a harbinger of recovery, most experts are only cautiously optimistic. One of the reasons for their restraint is the extremely large number of option-ARMs and ARMs that are scheduled to “reset” in the next 24 months. If past experience is any indicator of what happens when ARMs reset, this could send another flood of short sale homes and foreclosed homes into an already heavily saturated real estate market.

Even though banks are no longer making “stated income” loans, the number of home loans whose interest rates can or will reset is staggering. The potential risk is exceptionally high (reaching into the millions) and consumer credit, especially for those homeowners who are underwater on their existing mortgages, is nowhere to be found. Without the ability to refinance into lower fixed-rate mortgages, experts fear that millions of consumers will join the pre-foreclosure crowd between now and 2012.

The impact could be huge. Nearly 100 banks have already failed in 2009. For those institutions that aren’t properly capitalized, 2010 and 2011 could be just as tough. That places additional burden on the FDIC and the Treasury Department to come up with workable solutions that can either keep people in their homes or get them out of otherwise valuable property with the property intact.

The Treasury promises new guidelines for homeowners who want to get out of home ownership in a semi-controlled way. Combined with the Hope for Homeowners program waiting in the wings, the administration is confident that these programs will help stem the tide of foreclosures. The real problem with these programs is that they address only the properties that are in distress today and may not be equipped to deal with the rising tide of home foreclosures that will occur in the absence of refinancing options, tight consumer credit, and high unemployment.

Treasury expects to release new short sale guidelines later this month. Whether the streamlined short sale procedures enable homeowners to exit their homes quickly remains essentially in the hands of private lenders, and therefore largely out of the government’s control.

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