Bank of America Merrill Lynch analysts believe the federal government should begin investing in distressed real estate directly through a second round of the Public-Private Investment Program to reduce the shadow inventory of properties. The original PPIP was a coordinated effort between the Treasury Department, the Federal Reserve System and the Federal Deposit Insurance Corp. to hold real estate assets off bank balance sheets in order to free up credit lines. Through July, the government has invested in more than $22.4 billion in the PPIP. But while BofA Merrill Lynch analysts called the program a success for driving up the value of residential and commercial mortgage-backed securities, they said PPIP 2.0 would be critical to reduce homeownership rates, the amount of delinquent and foreclosed homes in the shadow inventory, and increase the value of real property. Homeownership rates dropped to 66.9% in the second quarter, according to the Census Bureau. BofA Merrill Lynch analysts said the adjustment to a more natural 62% to 64% rate is under way. Converting another 3 to 4 million homeowners to renters would be required to get there. At $200,000 a property, it would cost between $600 billion and $800 billion to make that reduction. Initial targets for the program would be the 5.5 million delinquent borrowers. "Despite all modification efforts directed at this group, we think it is probably only a matter of time before these many homeowners are no longer homeowners," according to the report. Clearing up more room for credit through PPIP 2.0 would also benefit a market that is seeing record-low sales and possibly a lower levels in the future. The analysts assumed the second round of PPIP would fund up to $400 billion worth of homes, and private capital would compete for the remaining stock of the shadow inventory. Sales of distressed properties are set to peak in 2011 at 2.3 million transactions before falling to more normal levels at 850,000 in 2016, according to a report from John Burns Real Estate Consulting. Using a group of property management companies, the analysts suggest the Treasury could keep these properties off the market for five to 10 years, allowing demand for housing to re-emerge. Analysts did admit funding for the program would be difficult, considering the Troubled Asset Relief Program is set to expire Oct. 3, and further bailouts would be detrimental to any politician in the current climate. "To put it mildly, in spite of its successes, TARP has not been particularly popular. We believe reauthorizing this type of spending on even a limited basis would be next to impossible, at least until after the upcoming election," according to the report. Write to Jon Prior.