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Mexico's ambitious plans. (International).

Mexico's president has big plans for developing the housing and mortgage markets in his country. His plan envisions doubling current levels of housing construction. Here's a primer on the players and the structure of the market.

MEXICAN PRESIDENT VICENTE FOX HAS SET AN AMBITIOUS GOAL. By the time he leaves office in 2006, he wants Mexico to build or finance enough new houses each year to meet the demand created by potential new household formations. Construction of about 750,000 new homes annually (more than doubling current levels of housing construction) will be needed to accommodate anticipated new household formations. * Demand is increasing as Mexico's population grows and ages. In 2000, more than half of Mexico's population was under the age of 24. Because of the aging of this population segment during this decade, 10 million people will be added to the 25-50 age cohort by 2010, a 32 percent increase. People in this age range are in their prime household formation years. By 2010, this cohort will increase to 37 percent of the total population (see Figure 1). The problem is the current supply of new housing is not keeping up with demand. * Mexico's housing market has been driven by the availability of mortgage credit and the pro grams that provide that credit. In the past, these programs have financed houses priced from US $12,000 to $38,000. Generally homes in this price range are owned by households earning roughly two to five times the minimum wage, which as of January 2003 was set at 41.53 pesos per day. * It is estimated that traditional intermediaries provided financing for only 315,000 houses in 2002. In recent years, there has been limited new housing production in the market sector of homes priced at more than US $38,000.

However, housing finance in Mexico is on the verge of dramatic change. How rapidly this change occurs is the key to the success of Fox's plan.

Sources of mortgage credit

Currently, Mexico's mortgage credit comes mainly from three entities: FOVISSSTE, INFONAVIT and SHF (previously FOVI).

FOVISSSTE (Fondo de la Vivienda del Sistema de Seguridad Social de los Trabajadores del Estado) is a combination low-cost mortgage fund and pension plan program for public-sector employees. It is funded by a 5 percent mandatory savings program.

INFONAVIT (Instituto del Fondo Nacional de al Vivienda para los Trabajadores) is a combination low-cost mortgage fund and pension plan program for employees of all private companies. It is also funded through a 5 percent mandated savings program. In both of these programs, qualified borrowers have been able to access the fund to finance the purchase of a new home built by a developer for these programs.

SHF (Sociedad Hipotecaria Federal), previously known as FOVI, is a federal development bank. It emerged from FOVI in 2002 to take on a role much like Fannie Mae's, facilitating mortgage financing for low- to moderate-income buyers.

SHF is a key player in the future of the primary and secondary mortgage markets in Mexico. It lends money to registered financial intermediaries, banks and SOFOLs (Sociedad Financiera de Objeto Limitado--limited-charter financial corporations created in 1993 that have come to serve as intermediaries in the residential mortgage market). These intermediaries, in turn, lend SHF-guaranteed funds to individual borrowers and keep the loans on their balance sheets for the duration of the contracts. SHF also has systematically provided construction lending to private housing developers.

Mexico's housing and mortgage industries have developed a useful matrix (see Figure 2) that describes the range of housing products. SHF, INFONAVIT and FOVISSSTE have traditionally targeted the social and economic-housing segments. Generally speaking, borrowers who qualify for either FOVISSSTE or INFONAVIT loans will not seek an SHF mortgage, as the terms will be more onerous. Social and Economic are the commonly used names of two of the categories of housing product described in Figure 2 (or, in our parlance, affordable housing).

Figure 3 depicts the number of families in each housing segment. More than 75 percent of the households are in the minimum, social and economic segments. In the past, few mortgages have been available for buyers in the middle segment, even though this segment's absolute growth between 2001 and 2006 is expected to exceed the absolute growth of either the social or economic segments (according to forecasts by SOFTEC S.C., Mexico City, Mexico, and depending on assumptions about economic growth and increasing numbers of middle-class buyers). Clearly, lenders are anticipating developing products for this market as the Mexican middle class grows.

Mortgage banks

Key players in the current market are the 17 active mortgage banks or SOFOLs. SHF authorized them to originate and administer mortgages within the original FOVI program. The SOFOLs originated more than 95 percent of the FOVI loans during 2000, 2001 and 2002. The SOFOLs have entered regional markets. They are now in the process of growing their existing business lines, building volume originating loans on existing houses and market rate houses, and providing banking services to residents in communities where they have located storefronts.

The commercial banks (which exited the market after the peso crisis in 1994) are slowly re-entering the mortgage market as their health continues to improve. Their primary focus is corporate banking but as the market for nonsubsidized mortgages develops there will be greater interest from the banks, as Fox's plan assumes. The SOFOLs continue to expand in this segment as well, but must attract the necessary capital to meet potential demand.

Since 1994, the SOFOLs--with the assistance of FOVI--have been key players in the mortgage market, originating 20 percent to 25 percent of individual mortgages every year, with INFONAVIT and FOVISSSTE funding the rest. The SOFOLs fully expect to continue playing this role, but also expect to be path-breakers in developing the higher-end mortgage market. This segment is currently poorly served, due in part to the SOFOLs' inability to tap capital and direct it to this market. (Developers are building limited amounts of the middle and residential product [US $38,000-$200,000]. What is being built is offered to the consumer with construction financing and limited permanent financing. Obviously, with capital, more product will be developed. A concern, however, is whether planners and local governments, along with the home-building sector, can effectively gear up to provide the needed product even with available capital.)

SHF clearly is gearing up to help the SOFOLs and the banks in this area. In 2002 about US $350 million of paper was issued by either home builders or SOFOLs to provide financing for housing production, according to SOFTEC S.C., and there is now a total of about $650 million in circulation- evidence of a nascent secondary mortgage market.

National Mortgage Bank (Sociedad Hipotecaria Federal)

As noted, FOVI has evolved into a Fannie Mae--like national mortgage bank referred to as the Sociedad Hipotecaria Federal (SHF). The goal is for SHF to be the catalyst in the evolution of a strong housing finance system that ultimately will look to the secondary market and long-term bond investors for capital.

As with Fannie Mae in the United States, SHF will serve to facilitate standardization of mortgage products and procedures; improve foreclosure, appraisal and registry systems and institutions; and encourage the evolution of private mortgage insurance. Most important, SHF will take the lead in introducing and issuing mortgage-backed securities (MBS) backed by guarantees to investors of timely payment of principal and interest.

The intent is for SHF to be an independent institution capable of obtaining a triple-A rating by 2014, after which the backstop guarantee by the federal government will cease. It is not, however, the intent for SHF to crowd out private players in the secondary market. SHF is not intended to have the competitive advantage garnered by Fannie Mae and Freddie Mac downstream.

SHF is envisaged to provide additional liquidity to the market for no more than eight years. The Mexican government initially has budgeted US$4.5 billion. These funds will be directed in new ways relative to FOVI's past activities. Remember that SHF is a new institution with a much broader mandate.

New SHF activities are to include the financing of existing homes, residential or market housing units, along with the financing of rental units and serviced land for housing construction. Beginning this year, SHF will act merely as a guarantor of construction lending lines obtained by banks and SOFOLs in the capital markets.

Management of liquidity and risk

SHF will undertake activities to make it easier for institutions to manage the liquidity and risk associated with the mortgage market in Mexico. Along with funding and liquidity operations in the early stages, it will effectively provide three guarantees: one originally provided by FOVI (the unit of investment [UDI] minimum wage swap that is already in place) and two provided by SHF. The swap employs the UDI, which is a unit of account that is adjusted for changes in the price level, and is quoted daily by the Banco de Mexico. If you are paid in UDIs, you will have constant purchasing power. The swap hedges the risk associated with variation between wage rates and prices where wage rates constrain the allowable mortgage payment. UDI-denominated loans are typical and they are price level-adjusted mortgages (PLAMs).

The new SHF-provided guarantees follow. In the primary market, SHF will provide a guarantee of the first 25 percent of loan loss, cost of repossession and legal costs. In the secondary market, SHF will provide a guarantee of timely payment of principal and interest. The intent is for these three guarantees to attract new private capital.

Mexican pension reform

Starting Jan. 1, 1997, employees began contributing to an individual pension account. These pension accounts are administered by the Administradores de Fondos para el Retiro (AFORES). Upon retirement, workers may opt to keep their money with AFORES or buy an annuity sold by insurance companies.

As of December 2002, AFORES had accumulated more than US $30 billion in deposits. Estimates are that these holdings will increase by $2 billion to $5 billion per year for at least the next decade. The availability of long-term funds from AFORES and insurance companies, together with the low delinquency shown by the SOFOLs and the new UDI mortgage (with a UDI minimum wage swap), offer the possibility of a secondary mortgage market.

Details of Fox's plan

Under Fox's plan, most of the new loan production will come from SHE, the SOFOLs and banks. Thus, the Fox program depends critically on the transformation of SHF into a viable national mortgage bank so that it, along with the SOFOLs, are able to tap secondary markets for capital.

(Figure 4 presents a forecast by SOFTEC of the likely allocation of the 750,000 units in 2006 among housing types. Note that the "minimum" segment in Figure 4 is for the poor.)

Current SHF, FOVISSSTE and INFONAVIT programs target the social and economic market segments (see Figure 2). The middle, residential and residential-plus segments are markets that existing programs do not target in large numbers. However, the SOFOLs and banks are expected to expand their activities in these segments with the assistance of SHF.

Not only do the SOFOLs and banks need to ramp up their activity in the middle- and upper-income markets, but developers also need to begin to acquire parcels suitable for this type of housing development. They also need to reassert their capability in entitling, planning, developing and building these product types.

Final thoughts

The Mexican housing and mortgage markets seem poised for dramatic change. Yet, significant challenges likely will frustrate the achievement of President Fox's goal of constructing 750,000 units per year by 2006.

Because of the North American Free Trade Agreement (NAFTA), the Mexican economy is more dependent on the resilience of the U.S. economy in this uncertain time. Thus, potential advances in the housing and mortgage finance sector may be slowed until the U.S. economy begins to improve.

Nonetheless, the startup of SHF is a critical step if there is to be any hope of reaching Fox's goal even in this decade. The provision of liquidity to SOFOLs and banks; the broadening of the spectrum of loans that can be funded (for middle-income and residential borrowers as well as investors and developers); and the provision of guarantees are all important steps.

The growth of AFORES provides necessary long-term investment capital. At the same time, the SOFOLs have evolved into relatively strong, well-managed intermediaries that can originate and effectively service residential mortgages using transparent and rigorous underwriting practices. The banking sector has stabilized and will likely begin to play a role in the nonsocial housing segment.

Mexico's economic climate, though significantly influenced by the recent U.S. downturn, seems to have stabilized. Inflation is low and interest rates, though high relative to the United States, are at manageable levels for many borrowers.

What must happen is a rapid expansion of the capacity of SOFOLs and banks as well as home-builders and developers. The SOFOLs need to broaden their product lines and develop the capability of underwriting, originating and servicing "market" loans and offering savings products to facilitate the accumulation of down payments. This will require building capacity in underwriting, originating and servicing in new market segments.

Beyond that, local governments must recognize that without entitled land and infrastructure, no houses will be built. A cooperative effort is needed between local governments and the development community to facilitate competitive land development. While prosperity and expansion of the housing market through access to capital will likely yield higher land values, regulatory (administrative or political) bottlenecks may exacerbate price effects, offsetting the benefit of greater liquidity among buyers.

The guarantees to be provided by the SHF are key, but the hope is they can be reduced over time because SHE is designed to be a stand-alone, A-rated entity by 2014. This will require investors to be comfortable with the system--if a borrower defaults, lenders must be able to gain control of the asset quickly and at minimal cost.

Significant progress has been made toward President Fox's goal, but tough challenges remain.
Figure 1

Mexico--Percentage of Total Population and Population in the 25-50 Age
Cohort: 1970-2010

37.2% - 2010 41,895
35.6% - 2005 37,961
32.5% - 2000 31,662
30.8% - 1995 28,045
28.1% - 1990 22,842
25.6% - 1980 17,786
27.6% - 1970 11,937


Note: Table made from bar graph

Figure 2

Housing Type Matrix

Type Price Size (Meters (2))

Minimum <$8,000 30
Social $8,000-$20,000 45

Economic $20,000-$38,000 50

Middle $38,000-$100,000 100

Residential $100,000-$200,000 200

Residential Plus >$200,000 350

Type Attributes

Minimum 1-2 rooms, self-build
Social Kitchen, LR, 1-2 BR, 1 parking
Economic Kitchen, LR, 2-3 BR, 1 parking
Middle Kitchen, LR, DR, 2-3 BR, 2-3 BA,
 1-2 cars, service quarters
Residential Kitchen, LR, FR, DR, 3-4 BR, 3-5
 BA, 2-4 cars, service quarters
Residential Plus Kitchen, LR, FR, DR, 3-5 BA, 4-6
 parking space, service quarters


Figure 3

Estimated Number of Families by Housing Segment, 2001

House Price Range $US Annual Income $US National

Minimum <US$8,000 <US$4,000 14.22%
Social US$8,000-$20,000 US$2,500-$8,000 19.90%
Economic US$20,000-$38,000 US$8,000-$17,000 43.75%
Middle US$38,000-$100,000 US$17,000-$40,000 17.24%
Residential US$100,000-$200,000 US$40,000-$80,000 2.96%
Residential Plus >US$200,000 >US$80,000 1.93%

Total 100.00%

 Number of Number of
House Families Urban Areas * Families

Minimum 3,334,470 9.18% 1,267,231
Social 4,667,180 16.92% 2,336,408
Economic 10,259,691 46.44% 6,412,054
Middle 4,041,842 19.23% 2,654,611
Residential 694,856 4.96% 684,352
Residential Plus 452,349 3.27% 451,059

Total 23,450,388 100.00% 13,805,716

* 80 largest cities


Figure 4

Current and Projected Housing Production by Housing Segment: 2001-2006

 Average Size, 2001 Average Price, 2001
 (Square Meters) ($US) 2001

Minimum 358,100
Social 59.1 $17,900 102,848
Economic 64.0 $25,600 154,076
Middle 108.9 $56,700 11,435
Residential 162.0 $157,500 3,005
Residential Plus 327.6 $417,300 1,871

Total 631,335

 2006 Percent Growth

Minimum 212,000
Social 250,000 143%
Economic 210,000 36%
Middle 90,000 687%
Residential 20,000 566%
Residential Plus 10,000 434%

Total 752,900


RELATED ARTICLE: Four Securitizations with More in the Works

THE SECONDARY MARKET APPEARS TO BE TAKING OFF IN MEXICO. We can see the growth if we examine some of the activities of individual SOFOLs (Sociedad Financiera de Objeto Limitado). SOFOLs are limited-charter financial corporations created in 1993 that have come to serve as intermediaries in the residential mortgage market.

Hipotecaria Su Casita S.A. de C.V., Mexico City, Mexico (the second-largest SOFOL), has completed four securitizations since 2000. One of the securitizations was collateralized by middle-income and residential mortgages and three others were collateralized by pipelines of construction loans where the ultimate collateral is take-out loans from several sources. These sources include: FOVISSSTE (Fondo de la Vivienda del Sistema de Seguridad Social de los Trabajadores del Estado--a combination low-cost mortgage fund and pension plan program for public-sector employees); INFONAVIT (Instituto del Fondo Nacional de al Vivienda para los Trabajadores--a combination low-cost mortgage fund and pension plan program for employees of all private companies); SHF (Sociedad Hipotecaria Federal--a federal development bank previously known as FOVI); mortgage-backed securities (MBS) or banks.

The total face amount of the deals (two peso-denominated and two UDI-denominated) approached US $100,000,000. The unit of investment (UDI) is a unit of account that is adjusted for changes in the price level, and is quoted daily by the Banco de Mexico. Thus, investors receive returns that hedge inflation risk. For the first issue in 2001, Moody's Investors Service, NewYork, assigned a rating of and a local currency rating of Baa2 to the bonds issued by Hipotecaria Su Casita S.A. de C.V., which were to be backed by a pool of residential mortgage loans extended to middle-income borrowers located in Mexico.

Moody's assigned the rating based on various factors, including isolation of the assets in the trust; the presence of contingency reserve accounts, which represented 10.98 percent of the total issuance at closing; two months of interest, principal and expense reserves maintained in the trust; 1.40x overcollateralization such that, at the outset, there were $140 of mortgage loans outstanding for every $100 in bonds; and the track record and strength of Su Casita.

The investors in the MBS were primary institutional investors, including insurance companies; the Administradores de Fondos para el Retiro (AFORES) pension funds; private pension funds; and mutual funds, The bonds were used to fund middle-income, residential, 10-year-term mortgages. The maximum loan-to-value (LTV) ratio was 65 percent, the average LTV was 49 percent and the average loan had a principal amount of US $60,000. The average real rate at the time of issuances was 11.9 percent. All the issue was placed in just under 200 loans. So far, the delinquency rate has been 0 percent with no defaults.

In late spring of 2002, Su Casita undertook a 715 million peso senior subordinated asset-backed issue. Class-A bonds totaled 600 million pesos, class-B bonds totaled 72 million pesos and the residual class totaled 43 million pesos. Moody's rated the class-A securities and the class-B securities The bonds were variable-rate with proceeds to provide advances to housing developers based on construction in progress.Two similar smaller issues have been completed.

Su Casita is also working on two more MBS issues for the third quarter of 2003. The first is a collateralized mortgage obligation-like (CMO-like) structure with three senior tranches with expected lives of five to seven years, 10 to 12 years, 15 to 17 years. It also has mezzanine and residual tranches with a total face amount of US $100 million. The second is a construction loan securitization with a face value of about 1.5 billion pesos.

David Dale-Johnson is associate professor of finance and business economics at the Marshall School of Business and Lusk Center for Real Estate, University of Southern California, Los Angeles. Gene Towle is managing partner, SOFTEC S.C., Mexico City, Mexico, and professor of real estate marketing at the Universidad del Valle de Mexico, Mexico City.
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Author:Dale-Johnson, David; Towle, Gene
Publication:Mortgage Banking
Geographic Code:1MEX
Date:Jun 1, 2003
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