The Real Estate Cycle
|1. WE ARE HERE|
Prices have started moving away from the bottom; demand is beginning to pick up.
|2. DEMAND INCHING UP|
Price correction, low interest rates and increasing affordability leads to improved demand.
|3. HIGH DEMAND, HIGHER PRICES|
Prices hit the roof; a good time for investors to think of an exit.
|4. INTEREST RATES HARDEN|
Inflation and higher input costs lead to a rise in prices. Banks increase interest rates.
|5. DEMAND FALLS|
Rising inflation and interest rates result in falling demand and unsold inventories.
|6. DISTRESS SALES|
Defaults by borrowers and developers lead to distress sales. Demand virtually dries up.
How much land does a man need? In his classic short story, Leo Tolstoy says the answer to this is “six feet from his head to his heels”. But we live in a far more capitalist society, where land is not just for a home or to grow food on, or even to be buried under. It’s an investment that can be passed on for generations— or pay rich dividends in your lifetime. Sadly, when we say ‘investments’ and ‘small investor’ in the same breath, we generally think only of stocks, mutual funds and bonds. Buying land if one already owns a house is seen as something only brokers, speculators or the fabulously wealthy do. But this perception is changing. In a MONEY TODAY survey conducted in association with 99acres.com, we found that over 25% of the 5,000-plus respondents are considering investing in property and close to 30% say they will do so if they get a good deal.
When it comes to buying a home to live in, experts say there’s no bad time. However, investing means that you need to consider the current prices, the possibility of their fall, when they will rise, etc. Or you can take our word for it. This is the best time to consider investing in property or upgrading your existing small home to a larger one, perhaps in a more desirable locality.
Why is investing in real estate such a good idea, and why is now the right time? First let’s consider why real estate makes for a good investment. The investment performance of an asset is judged by comparing the risk and return associated with it. The greater the amount of risk an investor is willing to take, the higher the expected return. An ideal investment is one where the risk is low but the return high. “Investments in real estate are associated with higher-thanaverage returns, moderate risk and a higher efficiency ratio. Real estate compensates more than proportionately for the additional risk taken,” says Abhishek Kiran Gupta, head, research, Jones Lang LaSalle Meghraj.
To compare investing in real estate with that in equity (high risk, high returns) and bonds (safest instrument), a recent report by JLLM takes into account what is called the ‘efficiency ratio’. “The ratio explains how much return (‘bang’) the investor gets per unit of risk (‘buck’). The higher the ratio, the more efficiently the investor is ‘spending’ the risk. If the ratio is less than 1, the investor has expended considerable risk to achieve each point of return,” says Gupta.
According to the report, equity saw the highest annual average return through 2001-8; retail witnessed the next highest, followed by the office and residential segments of the real estate market.
New Rules Of Investing
|Affordability vs Size: While developers have managed to bring down the prices of their projects by reducing the size, what has also changed is the difference between the size they quote and the unit you get. The difference between the super area (quoted by developers) and carpet area (what you get) has gone up in most cases. So, make sure to account for this while taking your decision.|
|Affordable is Negotiable: Just because a developer says that his margins are wafer thin does not mean that you cannot negotiate. According to brokerage house Karvy’s calculations, if the cost of agricultural land on the outskirts is Rs 250 per sq ft, after including land use conversion charges and cost of construction, an affordable housing project would not cost more than Rs 900 per sq ft to the developer. Add a margin of 30% for the developer, and the price comes to Rs 1,576 per sq ft. However, most developers in cities are selling at prices way above this.|
|Common Facilities: Buyers today look for facilities like a club house, swimming pool or tennis court. However, some developers are offering a single club house or pool for large projects of up to 2,000 units. Conversely, too many recreational facilities in a small project means higher maintenance costs.|
|Home Loans: Many banks are offering teaser interest rates on loans. Keep in mind that after this period either the EMI or tenure will go up.|
|Financing options: Some developers have tied up with banks to offer schemes like ‘no EMI till possession’. But remember that even if the developer claims to be paying your EMIs, the principal amount remains intact.|
Bonds, as the least risky asset, provided lower year-on-year returns. Real estate provides a middle path for investors who want to strike a balance between high-risk, high-return equities, and low-risk, low-return bonds.
So, investing in real estate, either in the physical form (which is most popular) or through real estate mutual funds (which are likely to come into their own soon) is a good idea. But why now? Because, by all accounts, the real estate market has bottomed out and there are clear signs of a recovery. Yes, prices might have been lower eight months ago, but at that point, you would not have been sure if the market would ever recover.
Says Raminder Grover, CEO, Homebay Residential, JLLM: “There is a definite danger in waiting too long for the perfect opportunity. Much as in the stock market, it is impossible to predict the point of lowest ebb in the realty market. The danger in delaying too long is two-fold. First, the buyer may lose out on the best properties, and second, the market may regain equilibrium, meaning the add-ons and even lowered rates may no longer be available.”
Lower home loan rates, property price cuts, apartment downsizing and a recovery in the job market are translating to an increased demand for residential projects. According to a recent report by Religare Capital Markets, with the improvement in macro-economic conditions, developers have seen a stronger response to new launches across cities over the past quarter. As far as investments are concerned, experts are bullish. “With prices now reasonable, it would be advisable to purchase property. Prices should move northwards, albeit gradually. So, now is the time to buy,” says Kumar Gera, chairman, Confederation of Real Estate Developer’s Associations of India (CREDAI).
Even developers in conservative markets like Chennai believe that prices have bottomed out. “This is the right time for second home buyers to fulfil their aspirations. Prices are affordable and are bound to go north from here. Investors can expect good returns on investments,” says G.R.K. Reddy, chairman and managing director, MARG.
During the second half of 2008, with the onset of the economic slowdown, end-users (in the residential sector) became apprehensive about taking up long-term loan obligations due to job market uncertainties. However, demand from buyers, absorption of new launches and retail credit growth for banks have shown positive growth. On the supply side, developers were concerned about limited funding options and a substantial decline in aggregate demand. However, now that the market has readjusted to a lower price point and there is sufficient demand, people who can avail of finance are going ahead and buying property.
Further Correction Unlikely: Even the most pessimistic real estate experts are now talking about ‘stability’ rather than a ‘correction’ in the market. “The market has bottomed out and any further correction looks unlikely. However, I think it is not going to go up in a hurry either,” says Anuj Puri, chairman and country head, JLLM. Developers are optimistic too. “I do not foresee a further correction in prices. Demand has started picking up,” says Pradeep Jain of Parsvnath.
Prices could Rise: According to a recent report by JP Morgan, “We expect residential prices to rise 15% from the bottom over a oneyear period. After falling 25-30% from peak levels, property prices are showing signs of stabilisation as volumes have picked up significantly. We see this as a precursor to price increase.” The report adds that “if sales during the festival season are substantial, then there is a good chance of a 15-20% appreciation by developers”.
In fact, in some places like Mumbai, prices have already gone up by 15-20% in the past six months. “Housing loans are coming at a cheaper interest, developers’ liquidity position is better and buyers have started entering the market. Now, it is to be seen whether this is pent-up demand or if investors are coming in,” says Shailesh Kanani, research analyst with Angel Broking.
Vikas Oberoi, managing director, Oberoi Constructions, which has mopped up Rs 400 crore in the past two months from sales of its Jogeshwari project says, “There is definitely a rise of 10-15% in prices as there is a strong demand in various brackets and people are ready to pay the right price.” Smaller developers are also upbeat about the sales picking up. “All those who chose to wait and watch are now investing, so rates are going up. We expect a minimum 20% net returns from upcoming projects in residential development,” says Jitendra Jain, CEO of Mumbai-based Neev Group.
Interest Rates: As inflation started cooling off after October last year, banks managed to lower home loan interest rates substantially. However, with the government’s borrowing programme likely to suck out some liquidity from the market and inflation back on the central bank’s agenda, an increase in interest rates cannot be ruled out. “Lending rates bottomed out in the second quarter and rates will harden gradually as credit offtake will pick up very slowly. The increase in rates will be in line with the pick-up in credit offtake,” says Chanda Kochhar, managing director and CEO, ICICI Bank.
Sales Picking up: Developers have witnessed a strong response to new launches across cities over the past quarter. The pent up demand is being gradually converted into purchases. In the past two to three months, developers have seen a steady increase in sales. “In the past few months, the real estate market has undergone major changes. The slowdown that migrated from the US has been corrected in India now. Prices have also corrected,” says Santosh Rungta, president, CREDAI. With demand picking up, developers have launched a number of new projects recently. According to a JLLM report, in the metros, the new launch tally for January-March 2009 jumped to 14,478 units from 3,096 in the preceding quarter. Sales picked up to 40% of launched units against 36% in October-December 2008.
Over the past couple of months, several developers have launched projects across cities in the residential category, garnering a significant response from buyers. This has motivated builders to focus on the residential space, particularly in the affordable segment. However, given the good demand, it seems unlikely that developers will cut prices further.
Even as we see signs of revival in residential property, it looks like the retail, office space and hospitality segments are not out of the woods yet. However, the office space segment is likely to look up as companies plan expansion in the second half of next year. Subsequently, developers may see a rise in sales and scale down some of the discounts they are offering in the residential sector.
Short Real Estate Cycle: Though real estate cycles are generally long, experts believe that this one is unlikely to last much longer because the economy did not witness a recession, only a slowdown. Also, a readjustment of prices according to demand will bring in new buyers. “What we are seeing presently is the post-correction situation. Real estate always witnesses a cyclical period of 8-10 years. We are in the early stages of an upward movement,” says Suresh Hari, former secretary, CREDAI.
Finally, this is a great time to buy as banks are not planning any increase in interest rates during the festival season and developers are looking at this period to clear their unsold inventory. So investors might be able to get some good bargains now. A word of caution before you rush in. “As an investor, one should be careful of the execution risk, especially with respect to newly launched projects. This means that selecting the right project becomes even more important,” says Samir Jasuja, CEO, PropEquity.
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