Slash Prices: Arun Jaitley’s Advice To Real Estate Companies Is Spot-On

Fostering Public Leadership - World Economic Forum - India Economic Summit 2010

The Associated Chambers of Commerce and Industry of India (Assocham), a business lobby, recently released a study titled Real estate investment: State-level analysis.

In this study, it estimated that 75% of the 3,540 real estate projects in India remained non-starter as of the end of March 2015. The business lobby estimated that the projects had total outstanding investments worth over Rs 14 lakh crore. This means that the average size of a project is around Rs 395.5 crore.

Assocham further said that a total of 2,300 projects in the real estate sector remained non-starter. Further, 1000 projects are facing a significant delay in completion.

Why is this happening? Real estate companies have two major sources of finance: banks and investors. The monthly sectoral deployment of credit data released by the Reserve Bank of India (RBI) points out that the total bank lending to commercial real estate grew by a minuscule 2% between September 19, 2014 and September 18, 2015. This, when the overall lending by banks grew by 8.4%.

Now compare this to how things were in September 2014. Bank lending to commercial real estate between September 20, 2013 and September 19, 2014, had grown by a massive 20%. The overall bank lending by banks had grown by a similar 8.6%.

This clearly shows that the lending by banks to real estate companies has slowed down dramatically. Between September 2013 and September 2014 banks lent Rs 26,958 crore to real estate companies. This has crashed to Rs 3,157 crore between September 2014 and September 2015.
What this clearly shows is that banks are not interested in lending money to real estate companies anymore. And in this scenario real estate companies do not have enough money to start or complete projects. 

Other than banks a major source of finance for real estate companies are investors looking to deploy money in under-construction properties. It seems they are staying away from the sector as well.

The returns from the real estate sector have been very low over the last few years. Further, many projects are massively delayed. As the Assocham study points out: “On an average, real estate projects in India are facing a delay of 33 months in completion… Realty projects in Andhra Pradesh are facing maximum delay of about 45 months followed by Madhya Pradesh (41 months), Telangana (40 months) and Punjab (38 months).”

Given this, it is not surprising that the investor interest in real estate seems to have come down dramatically, leading to major fund crunch for real estate companies. This also becomes clear from the spate of goodies and discounts that real estate companies are willing to offer to anyone who is willing to invest in a fresh project.

Commenting on the real estate sector, the finance minister Arun Jaitley said on October 31: “The essence of your industry can’t be that I will only survive on subsidies. You will have to survive on the strength of the market economy itself [italics are mine] and you will have to survive on the strength of our banking system to finance you.”

The phrase to mark in the above paragraph is “You will have to survive on the strength of the market economy itself”. What did Jaitley mean by this? What this meant was that the real estate companies will have to allow the market economy to operate. Up until now, despite a major fall in demand for real estate, prices haven’t fallen at the same pace.

In this scenario, the real estate companies are stuck with a massive amount of unsold homes. Even a fall in interest rates hasn’t helped given that most of the real estate in India’s bigger cities, where the bulk of the market is, is way too expensive and beyond what most people can afford. This anomaly needs to be set right. Real estate companies need to cut prices at a much faster rate than they currently are. For once, Jaitley’s comment on real estate is spot-on.

The RBI governor Raghuram Rajan said something similar sometime back: “I think we need the market to clear. With growing unsold stock, we need to see the ways to do it. Some of it might be by making loans easier, but we also don’t want to create a situation where prices stay high at the level which means demand can’t pick up.”

It is important to understand here that real estate is a very important cog in the wheel of the Indian economy. It employs a large number of unskilled and semi-skilled labour. It has major backward linkages into sectors like cement and steel. The point being no home can be built without cement and steel. A revival of real estate sector will lead to a definite pick up in cement and steel sectors as well.

To conclude, if real estate demand has to pick up, prices need to fall much more than they have up until now. The question is how soon will the real estate companies come around to cutting prices at a much faster rate than they currently are? On that your guess is as good as mine.
Stay tuned!

(Vivek Kaul is the author of the Easy Money trilogy. He tweets @kaul_vivek)

The column originally appeared on Huffington Post India on Nov 2, 2015

With a deficient monsoon, no acche din for rural economy anytime soon

Drought
This column has been due for a while now and I am finally getting around to writing it. Given that there has hardly been any mention of this topic in the mainstream media, it is still not too late to write about it.

For two years in a row India has had a deficient monsoon. In its end of season report, the India Meteorological Department (IMD), the nation’s weather forecaster, stated that “rainfall over the country as a whole was 86% of its long period average (LPA). Thus years 2014 & 2015 was the fourth case of two consecutive all India deficient monsoon years during the last 115 years.”

IMD uses rainfall data for the last 50 years to come up with the long period average. If the rainfall is between 96% and 104% of the 50 year average, then it is categorised as normal. If it is between 90% and 96% of the 50 year average is categorised as below-normal. And anything below 90% is categorised as deficient.

If something has happened only four times in 115 years, there is clearly reason to worry. Further, IMD at the beginning of June 2015 had predicted that the rainfall this year will be 12% below normal at 88% of the long period average(LPA) and they have more or less been proven right, with the rainfall coming in at 86%. The funny thing is that at the end of June it looked that the IMD might have got the forecast wrong.

The rainfall in June was at 116% of the long period average. Nevertheless, IMD proved to be right given that the country saw deficient rainfall in the coming months. It was at “84% of LPA in July, 78% of LPA in August, and 76% of LPA in September.”

The accompanying table from Crisil Research gives a breakdown of monsoon performance across various parts of the country.
South-west monsoon performance across regions

Interestingly, the IMD no longer uses the term ‘drought’ primarily because it believes that the entire country does not face a drought, at the same time.

As I keep pointing out, averages don’t give the complete picture. If we were to look at state wise monsoon data, the situation is very bad in some states. As Crisil Research points out in a report titled Rain Check: All You Need to Know About Monsoon 2015: “Five states have seen a rainfall deficiency of 20% or more. At 45.8%, Uttar Pradesh (UP) had the highest deficiency, which is nearly as bad as last year’s 47.2%. In Haryana, the deficit was 36.7%, in Punjab 31.7%, in Maharashtra 25.2% and in Karnataka 19.9%.”

The impact of the deficient rainfall varies depending on the kind of irrigation cover that is available and that varies from state to state. “While irrigation cover is high at ~77-99% in UP, Haryana and Punjab, it is low ~18- 34% in Maharashtra and Karnataka. The impact of deficient rains, therefore, differs by geography,” Crisil Research.

In fact, there are variations within a state as well. The Marathwada region of Maharashtra has been the worst affected region in the country, with a rainfall deficiency of a huge 54%.

The deficient rainfall will have a considerable impact on rural incomes this year. Depending on who you believe 40-60% of country’s population is engaged in agriculture.

India Brand Equity Foundation, a trust established by the Ministry of Commerce with the business lobby CII, puts the number at 58%. Crisil Research puts the number at 40%. Given this, we can safely say that the deficient monsoon will roughly impact half of the country’s population.

Slowing as well as falling rural incomes, will have an impact on rural demand. In fact, this is already being seen. Hindustan Unilever Ltd (HUL) has had to cut prices of its soap and detergents by seven percent, in order to counter falling rural demand. Soaps and detergents make up for around half of the company’s sales.

Further, tractor sales have been falling all through this financial year. Data from the Tractor Manufacturers Association shows that sales have fallen by 20% during the first six months of this financial year (i.e. April to September 2015). “The decline is the sharpest since 2003, a year when India faced a severe drought,” a newsreport in the Mint newspaper points out.

In fact, this is the second year of falling tractor sales. In 2014-2015(April 2014 to March 2015) tractor sales had fallen by 13%.

The slowdown in rural demand is also reflected in the falling motorcycle sales. Data from the Society of Indian Automobile Manufacturers (Siam) points out that motorcycle sales during the first six months of the year are down by 4.06% to 5.36 million units, in comparison to the same period last year. The fall in motorcycle sales hasn’t been as big as the fall in tractor sales given that motorcycles are significantly cheaper than tractors.

Companies are also scaling down their future expansion plans due the slowdown in rural demand. Take the case of Hero MotoCorp Ltd, which has huge exposure to the rural market, with half its sales happening in the hinterland.

As the Mint newsreport referred to earlier points out: “In a post earnings conference call with analysts on 21 October, Hero’s chief financial officer Ravi Sud said that the company has scaled down the initial production capacity at its upcoming facility in Gujarat from 1.2 million units earlier to 750,000 units now.”

The failure of the monsoon has had an impact on the kharif crop. It is now expected to have an impact on the rabi crop as well. The sowing of the rabi crop has started in some parts of the country.

Due to a bad monsoon the water level in the reservoirs is well below normal. The Central Water Commission monitors 91 reservoirs in the country. The water level in these reservoirs currently is at 58% of the total live storage capacity. At the same time the water level is at 76% of the average availability during the last ten years.

This is clearly not good news for the rabi crop, given that with low water levels in reservoirs, the irrigation needs of farmers cannot possibly be completely met.

Some of the crops grown during the season are onion, masur, mustard and wheat.

All in all things look tricky for the rural economy as of now. No acche din for them anytime soon.

The column originally appeared on The Daily Reckoning on October 30, 2015

RBI needs to answer some questions on home loans

RBI-Logo_8
One of the things that young journalists (or even old ones) are taught when they first join a newspaper is to think of a headline first, before they start writing.

The logic for this is pretty straightforward. Newspapers have limited space and pieces written using this concept tend to be more structured and readable.

Given their limited space, newspapers do not have space for rambling (or at least they should not). So all news-reports as well as analysis ideally needs to be definitive, where there is no scope for being all over the place.

The trouble with this approach is that while it helps come up with structured reports as well as analysis, it leaves very little scope for rambling and stuff that is not so definitive.

I know I have been rambling up until now, but just humour me a little more and I might come to the point sometime later in this column.

And actually that’s the beauty of writing on the web. There are no space constraints. This allows writers like me to ramble once in a while and come up with stuff that is not so structured and not so definitive.

This helps, given that life as well as the economy are largely unstructured, not so definitive and a little all over the place. And this is one such column.

Every month, the Reserve Bank of India (RBI) declares the sectoral deployment of credit data. This provides details of the different kind of lending carried out by banks. One of the data points that the RBI shares is the total amount of home loans given by banks.

The latest data was released on October 30, 2015. As per this data, between September 19, 2014 and September 18, 2015, banks gave out home loans worth Rs 1,04,135 crore. This forms 21.6% of the total lending carried out by banks.

How was the situation a year earlier? Between September 20, 2013 and September 19, 2014, banks had given out home loans worth Rs 75,058 crore. This formed around 16.5% of the overall lending by banks.

So what does this tell us? Between September 2014 and September 2015, the banks gave out a greater amount of home loans both in absolute as well as proportionate terms, in comparison to the period between September 2013 and September 2014.

So far so good.

Now compare this to the news that you keep hearing about real estate companies sitting on huge number of unsold homes. If that is the case then how are home loans being given by banks going up?
What this perhaps means is that people are no longer buying under-construction properties (which make up for a significant part of unsold homes of real estate companies) and that is why the number of unsold homes has not been falling.

Instead people are buying completed homes. These are homes which were completed in the past. Investors who had bought these properties are now perhaps exiting. I am not sure about this, but that is the best possible explanation that I can come up with and it’s clearly not definitive.

Why are people buying fully completed homes? For the simple reason that too many under-construction homes over the last few years have continued to be under-construction. A recent report brought out by the business lobby Assocham pointed out on that an average a real estate project in India was delayed by 33 months or close to three years. In this scenario, it will take a real brave-heart to buy an under-construction property.

Further, with banks giving out more home loans, does that mean home prices have fallen, leading to people buying more homes? There is no way this can be figured out from the data as it is currently put out by the RBI.

What the RBI needs to reveal along with the total amount of home loans is the number of home loans as well. If this number is provided then it will become very easy to calculate the average home loan size. This average home loan can then be compared to the average home loan from the previous years and that can give us a good indication of which way home prices are headed.

If home loan size has gone up then we can safely say that prices have gone up as well and vice versa. Further, if the RBI can provide an average loan to value ratio (i.e. the total amount of the home loan divided by the market price of the home being financed), it will give us an even better indication of actual home prices and which way they are headed. One trouble here is that almost all real estate transactions in India have a black money component and there is no way the RBI can estimate that.

Nevertheless, despite this problem, if the RBI gives out the number of home loans along with the loan to value ratio (data which should not be very difficult to agglomerate) it will become slightly easier to make much more definitive statements about the real estate sector in India.

This becomes even more important from the point of view of the fact that there is very little data available on Indian real estate. Most data currently is provided by real estate consultants and they have an incentive in projecting things to be much better than they currently are.

Further, the current real estate indices (the RBI’s All-India Residential Property Price Index and National Housing Bank’s Residex) which give us some indication of which direction the real estate prices are headed, by the time they are published are fairly dated. There is no real time data coming out on Indian real estate which can be used to estimate which way are the real estate prices are headed. And that’s the most basic piece of information needed from any market.

At the same time, the National Housing Bank (which is wholly owned by the RBI) and regulates housing finance companies, should also be putting out similar data. One estimate here suggests that banks give out two-thirds of all home loans and housing finance companies, the remaining. In a country where the entire real estate sector is rigged against the consumer, this will be one consumer friendly move, which will be definitive.

Hope the RBI is listening.

(The column originally appeared on The Daily Reckoning on Nov 2, 2015)