Tuesday, July 27, 2010

The Reality Of The Indian Real Estate Sector: Real Investing Opportunities vs. Imminent Crash?

We have all heard the catch phrase that 'If something sounds too good to be true, it probably is'. If not taken verbatim, there’s a lot of wisdom to the old saying but still people get drawn to all kinds of hyped offers and deals time and again. How many times in the history of mankind have we seen these too good to be true schemes turning out to be fake but every year more and more people get attracted to such "get rich quick" ponzi schemes and loose their hard earned money. What goes up has to come down but when the rise is exponential then chances are that the fall would be equally great if not more. An example is the recent collapse of the housing bubble in the United States which is slowly mutating itself into a global phenomenon. As the real estate bubble in the USA progressed from 2002 onward, it also gripped the Asian Property markets especially India. Just like Indian stock market bubble that popped in 2008, it’s quite evident that the Indian real estate is walking the same path.

  • The crash is more so imminent because Indian real estate segment does not have any real fundamentals attached to it. Rs. 1 crore ($220,000) which used to be a huge sum of money in India until only few years back, is now only good enough for buying a small apartment near New Delhi's earthquake prone NCR region.
  • India’s realty sector which was growing at a rate of around 30-35 % in the past few years was considered to be the barometer of the country's success but with the global economic juggernaut slowing earlier this year because of liquidity crunch and US sub prime crisis, a fall in India's much hyped and overpriced realty sector is imminent.
  • No matter how you look at it, India is still an incredibly poor country where majority of people work hard to get three square meals a day. The divide between the rich and the poor is growing by the day and lot of distortions still exist within the system mainly due to tax evasions and flowing of illegal money across the markets. Wherever black money is generated in huge quantities, real estate boom and speculation is rife. Real estate segment in India has long been seen as the safest and best place to park black money that justifies the unjustifiable realty prices across the country.
  • Today only 30% of India's population lives in urban areas, cities contribute more than 60% of the country's GDP and account for 90% of government revenues but a United Nations World Urbanization Prospects report has projected that almost 914 million Indians will live in cities by 2050, compared to 300 million now. Irrespective of the high priced land and real estate sector of the country, India's infrastructure continues to be poor. Real estate prices cannot sustain themselves in the backdrop of failing civic infrastructure and unplanned growth.
  • No one who invests in India or does business there can shield themselves from the effects of the real estate segment. Local stores in regular markets are selling as high as Rs. 2 Crores ($440,000) but are not even generating 10% of its price as gross earnings. Testimony to the falling realty segment is the fact that since 2007, prices of commercial as well as residential segments have dropped by 20-40%. Property sales across India have also registered a decline of almost 50% year-on-year. While the banks tighten their lending norms at one hand and developers fight the unsold and unfinished projects, the day of reckoning for the Real Estate sector could not be far away.

The signs of the bubble going bust sooner rather than later are ominous. Many projects in Tier I Indian cities have been stalled by builders due to their inability to raise finance. While potential buyers are delaying purchases in the hope that prices will go down further, the builders are still holding on to their hyped prices. The sentiment has been quoted by Chanda Kochhar, the chief executive of the ICICI Bank, India's largest private bank, who said in February 2009 that real estate prices still need to fall by at least 20% if the market was to pick up.

The major factors behind the rapid growth of the real estate are the relaxed policies taken up by the Indian Government on Foreign Direct Investment. The FDI policies of the Indian government has encouraged increasing number of foreign investors to invest in the Indian Real estate segment. India has replaced US and ranks second most preferred location for real estate investment but things are not as rosy on the ground as it appears to be. For the Non-resident Indians (NRI's) and foreign investors, there is an apparent lack of transparency in the Indian system. There is no independent reporting in the Indian media, which just plays on the market sentiment and helps create more cobwebs around the India realty hype story.

Commercial Real Estate: After nearly four years of aggressive growth, India's booming commercial real estate market is also in a free fall. Demand for commercial real estate in India was mainly been driven by the information technology sector and information technology-enabled services sector. The slowing of the global economic juggernaut due to severe liquidity crunch and US sub prime crisis has badly affected the Indian commercial Real estate segment. Many projects have been stalled by their inability to raise finance. Office rents have fallen, especially in Mumbai and New Delhi, where they have declined considerably since their peak.

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