BW Communities

Ready To Collapse?

BW Online Bureau Nov 08, 2014

<?xml version="1.0" encoding="UTF-8"?><root available-locales="en_US," default-locale="en_US"><static-content language-id="en_US"><![CDATA[Imaging: Anthony Lawrence On 21 november last year, a four-bedroom apartment at Mumbai’s posh Nariman Point was sold to a UK-based non-resident Indian (NRI) for a princely Rs 34 crore. The value of the seventh floor flat in NCPA Apartments — at Rs 97,000 per sq. ft — is the highest price ever paid for a residential property. Recently, builder Zubair Lakdawalla and three of his cohorts were arrested on charges of engineering the killing of a Buddhist monk in Mumbai’s slum pocket of Govandi. The monk had resisted the builder’s attempts to push through a realty project on slum lands, and his death sparked widespread public ire and rioting by the monk’s Dalit supporters. Related Stories Interview with V. Vaidyanathan of ICICI Bank Click here for more stories on Infrastructure A lease of an NDTV office in the commercial hub of Bandra Kurla Complex came up for renewal recently. The company, unable to meet the demand for tripling the rent, decided to move out. Another media company TV18’s CEO Haresh Chawla says wryly, “Real estate costs have ballooned beyond control.” These three anecdotes illustrate a swirling debate on the following question: is there a property bubble in the real estate market? There is enormous money in real estate, ever since foreign direct investment (FDI) was permitted in the sector in 2005. Property development companies have also raised fabulous amounts from domestic stockmarkets that appear to be sustaining high house prices, and a booming economy is doing the same for commercial property. But the situation also raises troubling memories of the Asian financial crisis of the late 1990s. However, others brush it off, saying the Indian market is different. In the property development rush, there are numerous reports of flouted norms, regulatory gaps taken advantage of, and the presence of a few players just donning different mantles. Given the symbiotic relationship between stock and real estate markets, what happens if the bubble bursts? Will that cause the economy to slow down further than it should? A Bubble? Really? The real estate sector in India is a series of micromarkets with different characteristics. Mumbai and Delhi cannot be compared with smaller cities such as Bangalore and Hyderabad; in cities like Jaipur and Indore, behaviour is even more varied. There are also some differences in how residential and commercial property markets behave. Micro-markets in Mumbai that have little housing stock coming in continue to see values moving. “Residential bookings at a C.L. Raheja project in Hindoostan Spinning & Weaving Mills in central Mumbai opened at Rs 18,000 per sq. ft a year ago, but are now at Rs 26,000 per sq. ft,” says Akshaya Kumar, chief of broking firm Parklane Properties. Similarly, residential bookings that began at Rs 12,000 per sq. ft at Bombay Dyeing’s Spring Mills at Wadala, have now touched Rs 25,000 a sq. ft. So how much of a bubble is it? Take a two-bedroom, 850-sq. ft flat in the western suburbs of Mumbai that could cost Rs 1.2 crore, 80 per cent of which is financed by a housing loan. Let us assume that the annual interest cost is Rs 12 lakh, or 10 per cent. At a monthly rental of Rs 50,000, the annual rental is about Rs 6 lakh. The return on investment is about 5 per cent — less than consumer inflation. Buyers bank on gains on capital or property value. In comparable markets, home prices should be about 12 to 15 times annual rent, analogous to a price earnings multiple. Across the board, they are much higher. Then there is the affordability test, which should be about 4-5 times annual income of the home buyer. Again, most are well above that range. {mospagebreak} NOT EVERYONE IS SMILING: Finding it difficult to ride the demand recession, smaller builders are selling out to bigger ones (Sanjit Kundu) The RBI Steps In But there’s no denying that there has been a correction, albeit a small one. After the Reserve Bank (RBI) raised its overnight lending rate for the fifth time in a year on 31 January last year to 7.5 per cent, banks were told to double their provisioning for commercial realty loans to 2 per cent in an attempt to manage defaults. “The continued high credit growth in the real estate sector is a matter of concern,’’ the RBI said then. Within days, most banks had raised home loan rates by 1 per cent. Following repeated hikes since October 2005, interest rates crept up from as low as 7 per cent to 11-12 per cent. Loan applications fell 25-30 per cent, and as existing EMIs were revised upwards, reports of defaults began trickling in. Actual deals fell to 40 per cent of the level at the start of the year. The big metros reported a plateauing of prices or a fall of 10-15 per cent in residential property, while in tier-II towns such as Jaipur, Bhopal, Kanpur, Mohali and Ludhiana, the fall was 25-30 per cent. The price spiral 2004 onwards was the sharpest in these towns, with an appreciation of 150-200 per cent in three years. “Builders in Bangalore say buying in the housing segment for Rs 45 lakh-80 lakh flats has dried out, but budget homes and the above-Rs 80 lakh luxury segment is still active,” says Anshuman Magazine, CEO of CB Richard Ellis. For the first time, the buoyant commercialmarket began taking a hit. Bangalore’s Whitefield area was the first casualty, with prices falling from Rs 3,200 a sq. ft to around Rs 2,300. Brokers say a flurry of construction created oversupply, and this suburb is now laden with 8 lakh sq. ft in vacant office space. Similary, Chennai’s sought-after IT destination — Old Mahabalipuram Road — has seen a decline in rentals by around 10 per cent recently. A housing complex planned for IT professionals by the Surinder Hiranandani Group on that road opened bookings at Rs 3,500 per sq. ft, but lack of demand has pushed down rates to Rs 2,500 a sq. ft, says local brokers. While asserting that property prices would hold because of the boom in consumption demand and new wealth in the hands of prospective buyers, ICICI Bank’s Executive Director heading retail lending, V. Vaidyanathan, conceded that loan dispersals for home buying had fallen considerably. “Dispersals have grown just 10 per cent compared to 30 per cent in previous years,” Vaidyanathan said (see ‘Increase Supply’ on Page 64). DEVELOPING INEQUITY: The margin-driven boom in property has missed out on affordable housing for the poor and the middle class (Subhabrata Das) “Supply, Meet Demand” Fears of a bubble are being played down. “The property market is not homogeneous,” says Anuj Puri, who heads broking house Jones Lang LaSalle Meghraj. “Prices will plateau in overpriced markets while others will be unaffected.” A FICCI survey, painting a rosy picture, says that the current ‘correction’ in property prices will not last more than six months and prices will move up in the second half of 2008. But realty fund managers, many of them preferring anonymity, predict that realty projects launched post-2005, which would begin to mature end-2008 onwards, will not allow developers to sustain prices. “Don’t go by one or two high-ticket deals, like the NCPA Apartment sale,” says a foreign fund manager. “The construction boom underway will lead to over-supply and falling prices till 2012, after which the upward cycle will start again.” A survey by property advisers Debenham Tie Leung (DTZ) says there is already oversupply in commercial property. The estimated supply of space in Delhi/NCR for 2007 was 15.9 million sq. ft, while bookings point to an actual absorption of just 13.2 million, an excess of 20 per cent. Chennai and Pune are likely to fare worse. “The downtrend will persist for another year, maybe more,” says Shashi Kumar, chief investment officer of IndiaReits. For the commercial property segment, a strong rupee is a concern. “If it touches Rs 35 to a dollar, which is likely, the IT and ITES sectors will be severely hit,” says Pranay Vakil, chairman of Knight Frank Property Services. “With 70 per cent of commercial real estate selling to this sector, one can expect demand will fall.” What’s Keeping Prices Up? Liquidity... Despite flagging demand, the high liquidity available to developers has given them the power to keep prices afloat. Realty firms have collected record amounts in IPOs. An ASSOCHAM study for the period 1 January-15 December 2007 showed that real estate companies raised 42.7 per cent of the total Rs 34,119 crore raised in IPOs (See ‘Realty Tops In IPO Collections' on page 58). Indian and foreign realty funds have also raised humungous amounts. Since 2005, realty funds have mobilised around Rs 20,000 crore. Realty funds were allowed registration by the Securities and Exchange Board of India (Sebi) as venture capital funds in 2005, with a tenure of 7-10 years. Investors poured in as industry forecasts predicted the real estate market would spiral from $12 billion currently to $90 billion in 2015, driven by a shortage of 200 million sq. ft of demand from the IT/ITES sector and a requirement of 18 million housing units by 2010. {mospagebreak} ... Loopholes... But there are troubling questions. Save for RBI’s reporting system, there is very little monitoring as to where and how foreign funds are being parked. This has raised fears that foreign or joint venture firms may be bending the law and illegally engaging in speculative activity. For instance, acquisition of agricultural land with FDI funds is illegal. Yet, disclosures by joint venture (JV) Emaar MGF reveal that 83 per cent of the 12,544 acres the company acquired was agricultural land. Emaar Properties, a Dubai-based development company, has a 41 per cent stake in the JV, which is raising around Rs 6,000 crore through an IPO this February. A foreign investor tells BW on condition of anonymity that the deployment of FDI for agricultural land was being made by investors with their eyes open. “They are acting on assurances that in the modified master plans for urban agglomerations, much of this land, acquired at dirt-cheap rates, would be converted from ‘agricultural’ to the ‘residential’ category.” ...And Land Banks Most large developers have sought valuations largely on the basis of their claimed land banks. Sebi Chairman M. Damodaran directed real estate firms launching IPOs to disclose their land-bank details along with ownership status. He also said that valuations should be on the basis of current market value and not projections. And here some interesting facts emerge. Unitech’s joint MD Sanjay Chandra has claimed a land bank of 10,400 acres, while an SSKI valuation report has said the company holds 14,211 acres. DLF Vice-Chairman Rajeev Singh is on record stating the company has a bank of 10,255 acres, while Parasvnath Developers claims 2,000 acres. In many cases, the lands listed as part of companies’ land banks are involved in lawsuits. Cash-strapped builders have got investors to put in money based on heady valuations of these land banks. Why are land banks being valued as if they were fully owned and developed? Unitech proposes to build a 10,134-acre SEZ in Haryana, and the New Kolkata International Development project with 38,000 acres. But land in either case has not been acquired. Policy Pushes Speculation The sky-rocketing price of office spaces and homes has created a scramble among builders to book land at whatever cost. Foreign realty funds have learnt that. despite their huge corpus, too many suitors are chasing ‘clean-title’ property projects. Builders with stocks of this rare commodity have been hoarding and speculating. Little less than a year ago, Parsvnath Developers picked up a portion of the BEST Bus Depot in Kurla, Mumbai at an auction for Rs 40.5 crore. Brokers say instead of constructing homes and offices, Parsvnath is close to sealing a deal for the depot property for Rs 700 crore. However, it is more serious when public bodies add fuel to an already speculative business as they are mandated to ensure affordable housing. Public bodies releasing land in driblets through auctions both add to an artificial shortage and push prices to unrealistic levels. Two months ago the Mumbai Metropolitan Region Development Authority (MMRDA) auctioned three Bandra Kurla Complex (BKC) plots. The most expensive, a 16,500-sq. metre plot, was sold for Rs 5 lakh per sq. meter to Wadhwa Developers. About three years ago, auctions for plots in the same BKC complex had closed at Rs 25,000 a sq. meter. Wadhwa Developers will now have to sell space on its four-acre BKC plot at a mind-boggling Rs 70,000 a sq ft to realise a decent profit: the cost of land has become 80-90 per cent of project cost. {mospagebreak} Economic Implications Globally, Mumbai is among the top 10 cities with the most expensive apartment rentals. ECA International, a consultancy firm for international HR professionals, ranked Mumbai at No. 7. The latest Global Property Guide (14 January) indicated Mumbai to be more expensive both in capital values and lease rentals for luxury residential accommodation than Dubai, Sydney, Bangkok and Singapore. This is despite Mumbai’s quality of housing and office stock being far poorer than these other modern cities. To that extent, it is a disincentive for international businesses and their expatriate officials to locate in cities like Mumbai and Delhi. With foreign funds showing increasing levels of frustration at the problems of investing in clear-titled realty projects, poor availability and supply is bound to have a negative impact on FDI flows in real estate in the long run. What planners and government authorities need to worry about is that only a minuscule portion of the gargantuan funds that are being raised from the primary market and that are flowing into India are financing affordable housing and long-term infrastructure projects. Realtor Mukesh Patel, chief promoter of Mumbai-based Neelkanth Group, admits that builders have virtually stopped construction of budget homes that cost Rs 10 lakh or less. The margins available and the marketing effort are not worth their while, he says. Infrastructure projects, however, have long construction and gestation periods — something which realty funds looking at 7-10 year exit periods can ill-afford. The current construction boom is mainly in the upscale commercial/office space, mall development, middle and upper luxury apartments and townships and high-street retail. Stark as it may sound, the current property boom seems to have completely missed the 12 million Mumbai residents who live in slums and dilapidated buildings. And it’s not just about Mumbai. Delhi chief minister Sheila Dixit frankly admitted at a seminar: “Where we have failed is to provide dignified, living space to the people.” Does A Crash Loom? How can bubbles and ensuing crashes be understood? The typical sequence of events in such cases is as follows. There is financial liberalisation of some sort and there is a significant expansion in bank credit (FDI in real estate, housing loans rise). Some of this can finance new investment, but much is used to buy assets, such as property and stocks. Given limited supply, prices rise above fundamental values, fuelling speculation. A set of practical circumstances prevents selling of these assets and the bidding down of prices as theory would suggest (holding power, liquidity and regulatory gaps). This process continues until a real event occurs that reduces the payoff on these assets. The central bank is forced to restrict credit because of fears of ‘overheating’ and inflation. The result of one or both of these events: stocks and property collapse, creating serious problems for the financial services industry. A foreign exchange crisis ensues and investors pull out their money (the Asian crisis, for example). This spills over into the real economy, and a recession follows. True, we are far from such a bubble, but the early signs look scarily familiar. While these traits are peculiar to the country involved, the fact that such a similar sequence occurred across economies as widely differing as Norway, Finland, Mexico and Japan suggest that it is a more general phenomenon than we assume. Japan offers an instructive example. In the early 1980s, it created big surpluses and a surfeit of cash for business firms. A slowdown in growth rate also contributed to reduced loan demand. Housing finance was encouraged, so real estate lending and prices soared. The hidden value of companies that owned land soared; so did their stocks, setting in motion the reinforcing upward spiral of realty and stock prices. Financial asset markets skyrocketed. To offset the rising value of the yen against the dollar, the Bank of Japan reduced interest rates, and the system was awash in liquidity. The Nikkei 225 hit 38,916 in December 1989. In Tokyo’s Ginza district, real estate sold at $139,000 a sq. ft. In 2004, prices were one-hundredth that level. When the bubble collapsed, some $20 trillion, or Rs 80 lakh crore (in 1999 dollars) were wiped out. Investments were hit hard, and manufacturing firms lost their technological edge; their products became less competitive, Korea and then China have since taken over. It cost Japan a decade to recover. Yes, it is another time, another country. But look round, and it makes you wonder. gurbir.singh@abp.in With inputs from Abhishek Chowdhury