Over the last several months, housing finance in Mexico has ceded the spotlight to other securitization sectors like sub-nationals and toll roads. But it is creeping out of the shadows, as the nuts and bolts are nearly in place for an MBS market. A trip to the cross-border, some say, is not far behind, though longstanding hurdles will be tough to topple.

Joint leads UBS Warburg and BBVA Bancomer are putting the finishing touches on a Ps5 billion (US$470 million) program for Infonavit, an agency that lends to low-income borrowers, sources said. Initially heard as a structurer of the deal, Deutsche Bank has co-manager status. Regulators have reportedly given their OK.

An initial placement will be on the order of Ps1.5 billion (US$141 million) to Ps2 billion (US$188 million), said sources close to the transaction. A nonentity in domestic structured finance, UBS Warburg was picked because of its international experience in mortgages. BBVA is providing domestic strengths. "[Infonavit] was looking for a lead with both international and local expertise, so BBVA and UBS made joint proposal," said a source close to the program.

A guarantee will come from quasi-state agency Sociedad Hipotecaria Federal, rated triple-A on the national scale by all three ratings agencies. SHF introduced the housing market to partial guarantees in late October 2002, when it enhanced a program securitizing bridge loans for construction by Metrofinanciera. Since then, foreign players such as Dexia Credit, the FMO, and even monoline insurer MBIA have muscled onto the Mexican playing field, but SHF is expected to remain a key player in housing.

One or two subordinated pieces will up the enhancement in the Infonavit transaction, sources said.

Run by a board of representatives from unions, employers and the government, Infonavit lends primarily to low-income borrowers. Working capital comes from automated deductions on the salaries of most Mexicans. For individuals that do not tap the fund for a mortgage, a portion of their contributions is returned to them at retirement.

"In a sense it's like Fannie Mae and like a pension plan," said Philip Kibel, vice president at Moody's Investors Service.

This captive source of liquidity has kept the agency's balance sheet debt-free. Still, its funding is not inexhaustible and boosting origination has become imperative. It is no coincidence that Infonavit and its peers are turning to the market as the administration of Vicente Fox calls for ramped-up mortgage lending. "If they're going to be able to reach the goals imposed on them, they have to find other ways to increase cash flow," Kibel said. The government is pushing the sector to originate 750,000 mortgages annually by 2006. Infonavit apparently aims to provide half of that, judging from projections on its Web site. The remainder will fall mostly on the shoulders of the SOFOLes, special- purpose companies that provide housing finance.

Infonavit has extended 2.7 million mortgages since 1972. Its total loan portfolio currently amounts to Ps326 billion (US$30 billion), according to the agency's Web site.

The quality of the agency's loans are said to fall below industry average, which may explain the need for subordination and a guarantee, sources said. Delinquent employers and mobile borrowers have exposed deficiencies in tracking as well. A policy of automatically deducting mortgage payments from paychecks can apparently be a double-edged sword. While it cuts the risk of default, it disrupts collection when borrowers switch jobs and can make employers potential obstacles.

Crossing the Rio Grande

While the Infonavit program is not targeting the cross-border - at least not for the first placement - the choice of UBS is a sign that the agency is looking to meet U.S. standards of building a strong deal, sources said.

Talk is percolating about three other transactions that may go cross-border before the end of the year, sources said. Two are MBS, while one is backed by bridge loans for construction.

Growing hunger for capital will drive SOFOLes to the dollar market, but the obstacles that have kept them domestic and delayed the birth of true MBS even at home have not vanished. The availability of cost-effective cross-currency swaps is one of the most talked-about cross-border hurdles. "One of the main questions is still the coverage of currency risk and its economics," said Juan Pablo de Mollein, associate director of Latin America structured finance at Standard & Poor's. And the swap market, it appears, is not quite there yet.

"I think you can get a swap as far as seven years," said an official from a major SOFOL. "But the cost is another question."

One possibility is that the first cross-border issues will be short tranches of larger deals, with the longer-dated piece going local, sources said. Still, that would not entirely preclude the need for a reasonably priced swap.

Guarantors and multi-laterals keen on enhancing cross-border MBS are looking at ways to mitigate that risk for investors, one source said.

Caveat Emptor

U.S. investors will vet the first deals for other risks as well. Anything that looks unfamiliar is bound to draw tight scrutiny.

"It's still not as sophisticated as the U.S." a source said. To be sure, the SOFOLes are advancing towards standardization and aligning their processes with the likes of Fannie Mae, but they still have a way

to go.

Gauging delinquency rates is a case in point. Mexican mortgage providers do not usually compute the figure on a static pool and instead add newer credits to the base, sources said. That lowballs the number since fresher mortgages are less likely to default, particularly if there has been a pickup in origination shortly before the calculation is made. On loans originated in 1999, Moody's estimated a roughly 80% were current at a SOFOL deemed average. Delinquencies beyond 30 days reached about 10% of the total.

As a mode of comparison, on its Web site Infonavit claims a total delinquency rate of 11%. Sources say a static comparison would yield a steeper figure. That seems likely, given Moody's static figure for a typical SOFOL on top of the fact that Infonavit's loans are poorer in quality than average.

Not all differences with the U.S. are potential drawbacks for investors. Prepayment risk, for example, is a non-issue. One reason is that refinancing, the major motor of prepayments in the U.S., is a paltry business in Mexico. In addition, the income strata most likely to refinance normally bypasses the mortgage market. "In the higher-middle income segments, it's a cash market," Moody's Kibel said.

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