CRE Near The U.S.-Mexico Border Says: What, Me Worry?

The prospect of U.S. tariffs on Mexican goods, widely regarded as bad for the U.S. economy and CRE, caused a rumble of concern in industrial real estate markets near the U.S.-Mexico border. 

But only a small rumble, especially since the tariff threat wasn't taken too seriously.

On the whole, CRE execs active near the border Bisnow interviewed are optimistic about the future, since they believe the volume of U.S.-Mexico future trade is going to sustain local market fundamentals, which are already quite strong.

Colliers International Senior Vice President Mark Lewkowitz, who is based in the San Diego market, pointed out that the market has been down this road before.

"It was only this spring that the president said he was going to shut down the border completely," Lewkowitz said. "That would have been very bad for business, but it didn't happen either."

The strategy for real estate companies in San Diego, particularly those active in border-adjacent Otay Mesa, is to pay attention to possible policy changes, but pursue business as usual at the border, Lewkowitz said. 

"There's concern, but development and leasing are still firing on all cylinders."

Developer Kearny is watching the political scene with some nerves, but isn't parlaying that into a change in activity.

"A trade war with Mexico would have immediate implications for markets such as Otay Mesa," Kearny Real Estate Senior Vice President Jeff Givens said. "There were some moments of anxiety, but as a practical, day-to-day matter, we're developing a 311-acre business park in Otay Mesa, and we're confident in our delivery."

The 52-acre first phase of Kearny's Otay Crossings Business Park has already been leased. The second phase will include smaller lots of 2 to 7 acres for end users.

"The feedback we're getting on the second phase — mostly for trucking-related companies — is they want to be in the market. There might be bumps, but the momentum is very strong. You can't snap your fingers, or send out a tweet and shut down a market as strong as Otay Mesa," Givens said.

For a market that has been dogged by uncertainty since the beginning of the Trump administration — most recently the threat of tariffs and a border closing, but also the unfinished state of NAFTA's revision — greater San Diego, and especially the Otay Mesa submarket, are remarkably healthy.

Net industrial absorption in San Diego County totaled about 424K SF during Q1 2019, according to Colliers International data. Warehouse and distribution buildings posted 395K SF of positive net absorption, while R&D buildings (flex, wet lab and R&D uses) posted 28K SF of positive net absorption.

Otay Mesa had the metro's greatest net absorption for the quarter, at 408K SF. During Q1, Trident Maritime Systems (182K SF) and Mainfreight (33K SF) occupied newly completed buildings. Other large occupancies in the submarket included CareFusion (97K SF), Biotix (94K SF), RC Freight (60K SF) and Vmaco (21K SF).

Between 2014 and mid-2018, about 60% of the new leases in Otay Mesa were with Mexico-related tenants, while 40% were not, Lewkowitz said.

"The market is only partly dependent on Mexico— not completely, which that helps keep the market stable."

In April, Murphy Development Co. started work on the third and final building at its Otay Mesa development, The Campus at San Diego Business Park. The 137K SF Building 3 is a spec project.

The prospect of disruptions to cross-border trade was never an issue during the marketing of The Campus at San Diego Business Park, Murphy Development Executive Vice President and partner Kaitlin Arduino said.

"The industrial market is incredibly strong and Otay Mesa still benefits from its proximity to Mexico and the border crossing," Arduino said. 

Lewkowitz said Otay Mesa also has more going for it than just its location on the border.

"The submarket offers the newest space in San Diego County, in terms of clear height, trailers and parking," he said. "The buildings are more functional than product in much of the rest of the region, and enjoys competitive rental rates. Demographics are strong there as well, with a good labor pool."

One irony of the trade policies being pursued by the Trump administration, especially the trade war with China, is that they might eventually bolster demand for industrial space near the U.S.-Mexico border as Mexico looks to be a better alternative for U.S. manufacturers than China.

"Companies that have done their manufacturing, testing and engineering in China over the last 15 to 20 years are reconsidering," Givens said. "They don't see the situation ending well with China, and are looking for other options, or at least backup plans. 

"With headquarters in the United States, operations in Mexico make a lot of sense — you can be across the border to make inspections the same day and keep your finger on the pulse of the operation. The current climate might drive more manufacturing into Mexico, which will be good for the long-term health of the Otay Mesa submarket."

Though San Diego is by far the busiest U.S.-Mexico border crossing — and in fact the busiest in the world — it isn't the only one. Though tertiary markets overall, other crossings such as Nogalas in Arizona and El Paso and greater McAllen in Texas are regionally important.

Trade passing through the border crossing at Hidalgo, which serves the McAllen metro market, totaled about $30B in 2015, the most recent year for which statistics are available. That is an increase of nearly 100% compared with 2003, despite the intervening recession.

The greater McAllen industrial market is similarly healthy, with demand high and supply tight. According to CBRE data, annual net absorption in McAllen last year was 230K SF above the total for 2017.

That is thanks largely to a strong fourth quarter with three new major leases in the region. Four new build-to-suit projects in the Pharr submarket, totaling 232K SF, were delivered and occupied during the quarter and accounted for most of McAllen's net absorption.

The prospect of a tariff caused some rumblings in the McAllen market, McAllen Economic Development Commission President and CEO Keith Patridge said.

"For about a week, we heard from companies with plants in Reynosa [across the border in Mexico] who were looking to move inventory to industrial space on the U.S. side, to beat any possible tariff," Patridge said. "A number of companies were looking into it, but we don't have much space to speak of, since industrial vacancy is less than 1.7% in greater McAllen."

Though the tariff scare inspired a spike in interest in U.S. industrial space, Patridge said interest has been consistently strong in recent years anyway, despite headwinds caused by trade uncertainty.

Some of the interest in McAllen-area industrial space is in anticipation that USMCA (NAFTA's replacement) will indeed be ratified by the three countries involved, Patridge said. The automotive sector is particularly keen on finding space in the U.S. with access to Mexican factories, because the new agreement changes requirements for what counts as domestic content in cars, and how much workers need to be paid for making that content.

"Asian and European automakers especially see the border as an place where they can comply with the new rules, with a facility in McAllen to comply with the wage requirement for U.S. workers, but also a plant in Reynosa for the the parts of the cars they want made in Mexico, and the same management team overseeing both operations," Patridge said.