Tread with caution

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For the NRI sentimentality can be dangerous in times when the market is making more seasoned investors nervous.
-Sushil Suresh

Recently The Times of India reported that residential real estate sales in the state of Kerala dropped up to 40% as NRIs, who account for 70% of demand, stayed away from real estate due to project delays and rising costs. A depreciating rupee saw NRI remittances increase significantly in Kerala, but interestingly this time around developers were not the beneficiaries of these increased remittances. Kerala’s NRIs were lured away from real estate by better returns on bank deposits.

Many market observers of the India property market will not be surprised by these reports. For some time now they have been predicting slower growth in the property markets across several cities and regions in India. Global economic uncertainties have affected India’s economy, including the real estate market. DTZ India, a real estate consultancy, in its analysis of real estate in India says that India’s macroeconomic indicators are not healthy. Fiscal deficit and interest rates are high while the rupee is depreciating.

Kerala’s real estate woes are a symptom of a larger dip in sentiment among real estate investors Indian developers, individual homeowners, as well as institutionalised foreign investors all across India. And just as Kerala’s leading property developers such as Sahara Group, DLF, Unitech, SRK Group, Apple a Day Properties and Abad Builders have either delayed, downsized or shelved their projects due to dwindling interest among NRIs, who have been driving up property prices in the state by about 20% every year, investors in all the other states and cities are cautious with their plans for the future.

Rising prices and interest rates have been making investors increasingly nervous, and dampening demand in a few cities even while supply remains high. Investors as well as end-users have been showing signs of fatigue. In the residential real estate sector it is difficult to trace a property cycle that simultaneously affects markets across the country. However, some observers say that the big cities like Delhi and Mumbai tend to lead a cycle in the market.

“Clear trends in the real estate market are very difficult to predict at this stage, but it seems like a prolonged slowdown, if not a correction. The coming year, in all probability, will see plateauing of volumes and prices. Indicators show that interest rates will remain high, though more likely than not they will stabilise or move downwards, largely driven by a recovery in the US, leading to some liquidity,” DTZ’s investment advisory director Anuj Nangpal said in a recent media interview.

However, Makaan.com, takes this muted sentiment among investors as a sign that the market is in a phase where sellers will lose their traditional advantage in the market to buyers. The Makaan.com Property Index for June 2012 says that the Indian Real Estate Sector, a strong seller’s market, has started showing some signs of turning in favour of buyers. Makaan.com says that for some time now homebuyers have adopted a wait-and-watch approach as property prices and interest rates were rising. The consequent reduction in the volume of property transactions has led to an increase in unsold inventory in most Indian real estate markets. This will favour buyers, according Makaan.com.

As per the June 2012 MPI, the national index dropped from 1486 in June 2011 to 1446 in June 2012, signifying a softening of 3% in national residential property prices. This drop becomes more significant if one looks at the city-wise analysis. Cities with maximum price reductions over the last 12 months are Hyderabad (-26%), Chandigarh (-20%) and Ahmedabad (-11%). Hyderabad’s problems, according to Makaan.com, are a market volatility arising from political factors. Chandigarh and Ahmedabad experienced new project launches at a significantly higher value compared to the prevailing market prices (during the June-October 2011 period) last year, which had the effect of raising property prices higher. These new launches caused a temporary mismatch in the demand-supply equation in these two markets. Other real estate markets are also showing some sign of fatigue. The softening of prices is evident in markets of Chennai (-7%), Mumbai (-7%) and Bangalore (-5%). The next 45 months (the run-up to the festive season) will be extremely crucial for the real estate industry, says a makaan.com statement.

Despite all of this, both Indian and international experts too are optimistic about the long-term prospects of Indian real estate. India is undergoing one of the fastest rates of urbanisation, and this creates an insatiable appetite for infrastructure and real estate. The United Nations says that India has the highest rate of population change in urban areas among BRIC nations (Brazil, Russia, India, China and South Africa). At the current rate of growth, an estimated 843 million people will live in Indian cities by 2050, the combined population of USA, Brazil, Russia, Japan and Germany.

Real estate has always been considered a safe bet in India by the country’s middle classes and many NRIs. Affordable housing is a prime consideration for the Indian middle classes, and residential real estate is the most favoured investment option for households in India. With the rising fortunes of the Indian middle classes and the general growth of affluence it is logical that many families will soon also consider taking on investment properties.

However, it is important to bear in mind that Indian real estate is not as insulated from the global economy as it might have appeared in the 1900s. Nor are the housing sector’s fortunes unrelated to the profitability and general financial health of commercial real estate in India. It is often the case in India today that new residential developments don’t have matching urban infrastructure, and this is will be a significant concern going forward. The presence of good infrastructure like transport, retail and office space for rent are indispensable for the long-term equity growth or rental returns for any prospective real estate development in India.

Real estate has a big impact on the profitability and viability of the other major drivers of the Indian economy. The cost of real estate impacts in a big way on the profitability of India’s booming services sector and the IT/TES sector. Another sector that has witnessed its own revolution in India is the organised retail trade. Real estate was an important consideration in the most dramatic phases of growth and short-term slowdowns the retail industry faced. As shopping centres proliferated in Indian cities the need for better facilities management and revenue sharing models became important. And although 70% of shopping malls are concentrated in Delhi and Mumbai it is likely that we will soon see a wave of shopping mall construction in the other cities.

As in some residential and office building construction the retail sector too is dogged by the problem of developers completing projects in areas where infrastructure, accessibility etc make these locations unappealing to prospective retailers. A better understanding of the retail trade dynamics will steer developers away from such projects in the future. Retailers too are now waking up to the realities of the mall and are planning their strategies around well-planned and managed malls in an effort to attract greater sales and improve the overall shopping experience.

It is for these reasons and the mistakes of the recent decades that many experts argue that Indian real estate needs better technology and construction know-how apart from newer and more efficient facilities management know-how. Since construction technology has improved dramatically in recent years, getting this know-how into India will help in the efficient and fast implementation of projects in a competitive environment. What all this means is simply that Indian real estate is in urgent need of Foreign Direct Investment (FDI). FDI is crucial for the further development of the Indian real estate sector due to its tremendous capital intensive requirements.

The flow of funds is a major ongoing concern for developers. Real estate developers are reeling under high debt and this is worrisome in a time when FDI inflows have slowed down, says real estate research and intelligence firm Jones Lang LaSalle India.

According to DTZ, although office space is registered record growth over previous years absorption remained slower compared to previous years. Most of this decline will be due to the postponement of expansion plans of corporate players. However, rents have been appreciating in Delhi, Mumbai, Bangalore, and Gurgaon for last couple of years, while this appreciation has only just started happening in other cities like Chennai, Hyderabad, Pune and Kolkata. Bangalore is expected to post remarkable appreciation in rents during 201214.

If you are planning to invest in offices and retail properties, you need to tread with caution as the global slowdown may constrain demand for such properties. “The office market will remain inundated with new supply being introduced into the market, albeit at a slower pace compared with the previous two years. Vacancy pressures will escalate, which will lead to a downward push on rentals in key cities,” a national newspaper quoted Industry expert Anshuman Magazine as saying.

Many observers say that the commercial real estate sector’s reliance on the IT/ITES sector – over 70% of the demand for office space in India is from this sector is a further constraint on any growth in the immediate future.

These considerations make it necessary for NRIs to understand the Indian market better. Nostalgia for one’s home country and an unquestioned faith in property can be unsafe in times like this. This doesn’t mean that India is not a good option for real estate investors since. In recent years the residential real estate sector has shown a remarkable resilience coming out of softer economic conditions. But it would be imprudent to rush into the market just to acquire another home in India.

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