Recreational and Investment Real Estate Markets Tumble

"The basis for optimism is sheer terror." – Oscar Wilde

The bad news for the real estate market along the Pacific Coast of Mexico continues to get worse.

Real estate demand along the Mexican Pacific Coast is entirely dependent on three variables: American purchasers with (1) deep pockets; (2) easy access to cheap financing, and (3) limited real estate investment opportunities, at reasonable pricing, in the United States. All three of these variables are moving rapidly in the wrong direction for Mexican real estate sellers.

The decline in both the stock market and the US housing market has already reduced the average American's net worth by more than $75,000. This reduction in net worth is the deepest in history during an American recession, and it has come despite the lowest interest rates in a generation. The 1929 and the 1980-81 stock market crashes were much deeper than the recent decline in stock prices, but those crashes were limited to fairly small segments of the US economy. In 1929, less than 8% of Americans had exposure to the stock market. Today over 70% of Americans own stock, directly, indirectly through funds and also within their 401(k)s. The 2000 dot com bust was deep but it occurred in the midst of a rapid and steep run-up in housing prices and also impacted a limited number of investors. Most concerning is that reduction in net worth is not over.

The cheap financing of the past 10 years has dried up. Just two years ago, US lenders were making mortgages available at the Fed rate, or even lower than the Fed rate. Today, the spread between the cheapest mortgages and the Fed rate is 3-4%. Even worse is that lending covenants or conditions have been severely tightened such that the highest quality borrowers are not able to access funds even if they were willing to pay higher prices.

What might be the final nail in the coffin for the Mexican real estate market is the clear and evident collapse of prices for housing in the traditional sun belt and retirement markets of the United States. The Economist reports that the following US locations have experienced a 10 - 20% price decline in the past year: Orlando, Tampa and Miami in Florida; Phoenix, Arizona; Las Vegas, Nevada and Los Angeles and San Diego in California. And that decline is accelerating. There are now properties in Southern California being auctioned for 40% less than what purchasers paid for them 2 years ago. Americans who do have ready cash and want to invest in retirement and second properties no longer need to forgo that over-priced $400,000 condo in San Diego to purchase a $300,000 condo in Ensenada, Mexico, some 100km south of San Diego. The condo they want in their backyard in San Diego is now priced at $275,000, less than the competing property in Ensenada. There are now simply too many bargins in the United States for Americans with the available cash to ignore. Mexico prices will have to fall by 20% to be attractive again, and that drop does not include the price adjustment that we recommend due to the risk of investing in Mexico.

We closely track the Standard & Poors Case/Schiller Index of house prices across the US. This index is the best predictor we know for predicted discretionary spending on investment & rcreational properties, as well as tracking family wealth accumulation in the U.S. Today it was reported that the index dropped by 12% in the past year, the steepest yearly drop in the 20-year history of the index.