Distress sales involve the sale of assets that must take place due to conditions outside the control of the owner. With a distress sale, there is the need to sell the asset quickly, even if it has to be sold at a loss. The idea is to generate some type of return on the asset, even if it does not cover the current market value.
One example of a distress sale in the securities market has to do with the issuance of a margin call. In the event that such a call is issued, the futures, stocks, or bonds associated with the call will have to be sold. They are highly unlikely to yield the return originally envisioned by the investor under these circumstances.
A distress sale that many people can relate to involves real estate. In the event that personal finances undergo a downturn, home owners may no longer be able to make mortgage payments. In order to prevent foreclosure, the home owner will actively seek a buyer for the property that can either qualify to assume the mortgage, or buy the property outright for enough money to pay off the mortgage. In both scenarios, the home owner is highly unlikely to receive any monies that are close to the amount of equity invested in the home.
The key component of a distress sale is the urgency associated with the transaction. For some reason, it is necessary to achieve a sale sooner rather than later. While the asset would be likely to generate a higher return if held on to for a longer period of time, the owner is unable to do so. In order to alleviate the current factors that make the sale necessary, the owner will sell the asset at a loss, and begin to rebuild his or her bank of assets at a later date. Fortunately, the reduced price associated with an urgent sale of this nature often attracts buyers, making it possible to complete a distress sale quickly and with relatively ease.
While a distress sale often takes place due to adverse conditions, the end result of the sale can be viewed as a new beginning. Going through with the sale does reduce the assets held by the owner. At the same time, the distress sale usually generates needed capital to retire some sort of ongoing debt and thus relieve the financial stress currently impacting the owner. Once the financial issues that led to the distress sale no longer encumber the individual, he or she is free to begin rebuilding their financial holdings.