Inconvenient Observations On Residential Real Estate: US and Mexico

[Editor’s Note: The following post is by Jim Karger, TDV legal correspondent]

Beaten-down US residential real estate markets, such as Las Vegas and Phoenix, have seen sharp rebounds in home values this year, mostly due to a diminishing number of foreclosed homes entering the market. On the surface, that appears to be good news. Unfortunately, it is not the result of fewer homes in foreclosure, but rather, banks intentionally not foreclosing on homes already in default. Indeed, by some estimates as many as 4 million homes currently in default (some for as many as 3 years) have not been put into the foreclosure pipeline, resulting in a massive shadow inventory north of the US-Mexico border.

Charles Hugh Smith observes: “This is a risky game the banks are playing, as this visibly artificial restriction of inventory undermines the belief that this recent surge in home valuations is legitimate, i.e. a balancing of actual supply and demand. Squeezing inventory does not magically enlarge the pool of qualified homebuyers; it ‘games the system’ so those buyers are paying more for the homes that they would otherwise be worth if the market weren’t being manipulated. This helps banks by raising the prices they’re getting for the few foreclosed properties that reach the market, but it certainly doesn’t help buyers.”

It seems the banks’ strategy is to manipulate prices higher by keeping inventory off the market, believing the gains on homes sold will exceed the losses incurred on their non-performing loans. Longer-term, the banks hope that their manipulation of prices will result in a change in buyer psychology, causing would-be buyers to believe a bottom is in, increase sales and then release the shadow inventory at higher prices while mortgage rates are at all time lows.

Smith opines, and I agree, that the banks’ plan is ill-conceived, to wit, they “cannot fix an unhealthy, dysfunctional system by hiding reality behind an artificial reality facade. All you’re doing is increasing the instability of the system, which is not allowed to self-correct.”

Watching the US market, I am reminded of the technical differences, but substantive similarities, to certain real estate markets in Mexico that are supported in large part by Americans and Canadians who either have relocated to Mexico or have second homes here.

Because leverage was never an issue in the Mexican housing boom, there is little “shadow inventory” held by banks or any other lenders for that matter, and thus no artificial lender restriction of inventory.

But, because most homes in Mexico are purchased for cash, there are no carrying costs in the form of principal or interest payments, and because taxes and maintenance are comparatively low, many owners who want to sell elect not to sell if only because there is little cost associated with holding the property. Still, other properties on the market are de facto off the market based on their pricing. Indeed, in Mexico it is common to put homes on the market for prices far in excess of a price at which they will sell. Like banks north of the border, some owners in Mexico want to wait out the market and eventually sell for what they paid during the boom that occurred between 2003 and 2008.

What has resulted is an inventory imbalance that continues to grow as more sellers put their properties on the market at prices for which they will not sell. Going forward, without reductions in price that act to balance supply and demand, the inventory will continue to stack up like so much cordwood.

Just as banks in the US are able to hold inventory due to their ability to borrow from the Fed for virtually nothing, many sellers in Mexico continue to price their properties far in excess of the current market for the same reason — they can. Both are hoping for higher prices, and while some debate whether the expatriate housing market in Mexico will improve, there is little evidence that it will do so in the near term.

Exacerbating the expanding supply problem is diminishing demand caused by the negative press in the US and Canada associated with the drug wars and, ironically, due to the inability of many Americans to sell their properties in the US, oftentimes a prerequisite to moving to and buying in Mexico.

From discussions with some agents in Mexico, the higher end of the market is the weakest. One agent suggested that might have to do with perceived security problems, to wit, the rich can afford to live anywhere and do not need to live where they believe there is a risk of violence or kidnapping. Another agent suggested it might be the result of many Americans’ losses in the last stock market meltdown. Or, it may be that the last high end real estate boom in Mexico was in large part financed by the US bubble, i.e., buyers took equity out of their US homes to buy here, an opportunity that no longer exists.

On both sides of the border, market pressures are mounting. Prices above market are caused in the US by banks that hold properties out of the foreclosure pipeline, and in Mexico by sellers holding their properties off the market or maintaining unrealistic asking prices. Both act as dangerous restrictions on the markets’ ability to reduce inventories and find a bottom. If history proves valuable, both markets will eventually break down as the effort to maintain a false normalcy fails and the self-correction manifests itself acutely as the banks there and the sellers here finally capitulate.

For those looking to bottom-feed, there are increasing numbers of capitulation sales in several Mexican markets which sometimes indicates a bottom is near.

So, what does “capitulation” mean? I define it as an acute, oftentimes precipitous, drop in asking price to market value. In San Miguel de Allende, I have seen houses originally listed for over a million dollars on the market for years finally capitulate (and sell) at $600,000 U.S., even less. Those kind of dramatic drops have been seen in every Mexican real estate market where there is a large presence of Americans and Canadians. My brother owns property in a country club community on the water near Playa del Carmen. The inventory there is stacking up and he knows of several capitulation sales.

In lower-priced homes, there seems to be less inclination of sellers to price their homes wildly above market. But even in homes priced less than $200,000 US, I have seen situations where owners, after having their home on the market for years, have thrown up their hands and taken 30%+ haircuts. I have a beachfront lot near Zijuataneo that I bought five years ago from a distressed developer. I paid 50% of what he was selling the same lots for 3 years before I bought. Today, I would have to discount 50% from what I paid for it to sell it. So, I won’t. Yet. Why? I am not ready to capitulate. Under different financial circumstances, I might.

What all this does not mean is that every home on the market in Mexico is overpriced. They are not. Some friends of ours who decided to downsize put their home on the market in San Miguel at $899,000 US and sold it two weeks later for $849,000 US. Why? They priced it to sell, not to sit. They priced it where other homes of that caliber recently sold, not at a price in hopes a sucker would come along. What sellers are finding at all levels of the market is that there are not many suckers left. Rather, there are shoppers, many of whom have had to take their own baths on properties that declined in value from the time they bought until the time they sold. They are hip to the game and having been burned, they are reticent to bid near ask.

The key to success is straightforward: What the seller paid and what the seller wants are irrelevant numbers. The only relevant number is the current market value today. That requires work to discover, especially in Mexico where amounts paid and amounts recorded on deeds often differ dramatically. Unfortunately, some real estate agents don’t want to work hard or want an easy sale. Finding the right agent is difficult, but it pays dividends. In the end, it is up to the buyer to take responsibility and find those in the know inside the market of their choice, to ask questions, to see a lot of homes, make a lot of notes, to hire a lawyer they can trust who closes a lot of real estate, to auger down to the real market value of the home they want to buy. Then, and only then, are they ready to negotiate.

–Jim Karger

Jim Karger is a lawyer who has represented American businesses against incursions by government and labor unions for 30 years. He has been the subject of many feature articles, including, “Outlandish Labor Lawyer Gets No Objections From Staid Clients,” published in The Wall Street Journal, and most recently was featured in an article entitled, “You Can Get There From Here,” published by the American Bar Association. In 2001, he left Dallas, and moved to Mexico in the high desert of central Mexico where he sought and found a freer and simpler life for he and his wife, Kelly, and their 10 dogs. Today, Jim takes a handful of assignments each year, and speaks regularly to industry associations and employers on issues involving government regulation, over-criminalization, and privacy. His website is www.crediblyconnect.com.

In a couple of days I will fly to San Diego to meet up with TDV editor-in-chief, Jeff Berwick, and TDV contributor Justin O’Connell to attend Libertopia. Today I am sitting in one of the bedrooms from my childhood in my mother’s house in the redneck exurbs of Orlando. My mother has refused to capitulate on this house for over five years now. I have tried to explain to her repeatedly that there is a price at which this house will sell…and that price is not anywhere near the hallucinated numbers she’s been using since the housing bust.

I use some pretty extreme examples to make my case: I’m sure she could find hordes of buyers if she priced the house at $10 or so. Same goes for pricing it at $100. Hell, even one of America’s millions of long-term unemployed would scrape together the cash for a deal like that. Increase the price all the way up to $20,000 or so and there would be fewer eager buyers, but still more than enough for her to sell the house. 

Ask for the $275,000 that real estate brokers in 2005 claimed the house would sell for and, well, absolutely no one will show up. At least not anymore. In fact, if anyone saw the property listed at aything over $200,000 online, they may well share the link to the listing on Facebook so their friends could have a good laugh. 

There’s a happy medium price to attract the right buyer for the maximum amount that could possibly be gottern given the current economic enviornment. But that figure is a lot closer to $10 than it is to $275,000. In fact, it’s probably closer to $10 than it is to $100,000. But it is very, very hard for people not versed in the Austrian school of economics to make any sense of this. People like my beloved mother are just waiting for the government to somehow make it all better and bring housing prices back to those glorious highs against which mortgage-holders borrowed and spent. 

My own understanding of the Austrian shool was limited when the real estate bubble was at its central bank-fueled height…but I knew enough to be lightening up on real estate and stocking up on silver. I tried to get my family members to do exactly that. None of them listened, of course. So now my mom still has this house (which is worth less than half what it was six years ago) and no silver (which is worth six times what it was six years ago). This is especially maddening during this visit as I sit in this house and hide away in my room to compose this while trying desperately not to listen to the booming voice of the fascinatigly dim Al Sharpton as my mom watches his daily show on MSNBC. 

Oh well. My dear mother may be stuck in Central Florida and heeding televised democratic socialists for the foreseeable future…But if your ability to relocate is less limited — and you are wise enough to invest your real estate money outside the US and ignore your television — then TDV Groups is the perfect place to find real estate, and other investments, worldwide. 

You can even start your search for international real estate in beautiful San Miguel de Allende. Jim Karger’s San Miguel TDV Group will give you all the information and help you need to find your second (or new) home in this ridiculously beautiful magnet for American and Canadian expats. 

TDV Groups is yet another benefit of signing up for a paid subsrciption to the TDV newsletter at either the Basic or Premium level. Of course, you also get in depth macroeconomic analysis and actionable advice, too. You can find out more and sign up here. 

Maybe it’s spending all this time with my socialist family during an election year with soundbites from either fascist socialists or Marxist socialists filling the air. But it sure is refreshing to have the online company of people who aren’t crony corporatists who watch FOX News in rapt awe…or envy-baiting wealth haters watching MSNBC. Join the fun at TDV Groups and get some relief. 

Regards,

Gary Gibson
Editor, The Dollar Vigilante

The Dollar Vigilante is a free-market financial newsletter focused on covering all aspects of the ongoing financial collapse. The newsletter has news, information and analysis on investments for safety and for profit during the collapse including investments in gold, silver, energy and agriculture commodities and publicly traded stocks. As well, the newsletter covers other aspects including expatriation, both financially and physically and news and info on health, safety and other ways to survive the coming collapse of the US Dollar safely and comfortably. You can sign up to receive our FREE monthly newsletter, our Basic Newsletter ($15/month) or our Full Newsletter ($25/month) with specific stock recommendations and updates at our Subscriptions page on our website at DollarVigilante.com.