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

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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

Are banks finally pulling the plug on real estate?

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The Reserve Bank of India (RBI) puts out the sectoral deployment of credit data every month.  These numbers tell us how much banks have lent to different sectors.

The latest set of numbers released by the RBI point out that lending to commercial real estate grew by just Rs 7,153 crore or 4.5% between August 22, 2014 and August 21, 2015. Commercial real estate includes loans to builders.

This, when the overall lending by banks grew by Rs 4,67,509 crore or 8.2%. Hence, the lending to real estate by banks grew at a much slower rate than the overall lending carried out by banks, over the last one year.

How did things stand in August 2014? Between August 23, 2013 and August 22, 2014, the overall lending of banks had grown by Rs 5,28,173 crore or 10.2%. In comparison the lending to commercial real estate by banks had grown by 17.3% or Rs 23,318 crore during the period. Hence, the lending to real estate banks between August 2013 and August 2014 had grown at a much faster rate than the overall lending by banks. That is clearly not the case now.

In fact, between August 2013 and August 2014, banks lent Rs 23,318 crore or nearly 3.3 times the Rs 7,153 crore that they have lent between August 2014 and August 2015. Hence, new lending to commercial real estate by banks has slowed down considerably.

What is interesting is that during the course of this financial year the overall lending to commercial real estate by banks has actually gone down. Between March 20, 2015 and August 21, 2015, the lending to commercial real estate has fallen by Rs 975 crore or 0.6%.

This should put further pressure on builders as far as their finances are concerned and push them more towards lowering prices of unsold homes.

In the recent past a spate of private equity/venture capital funds have invested in real estate companies as well as projects. This is now being offered as one of the reasons as to why the real estate prices won’t fall in the time to come. It is being said that money from private equity/venture capital funds will keep real estate companies going for a while.

There are multiple questions that needs to be answered here. The first question is, why are these funds investing in Indian real estate? John Kay explains this in his book Other People’s Money—Masters of the Universe or Servants of the People?

In the aftermath of the financial crisis, the central banks of the Western world have printed a huge amount of money. Some of this money has been diverted into asset markets and financial markets all around the world, driving up their values. At the same time, the markets have been going up and down in the same direction at the same time. They have become highly correlated in comparison to the past.

As Kay writes: “The resulting common volatility of security prices has provoked a search for ‘alternative assets’ which would not be correlated with existing portfolios. Traditionally ‘alternatives’ were investments such as gold, art, vintage cars and fine wines: but these exist only in limited quantities. And as investor interest in them grew, their prices became increasingly correlated with those of mainstream assets.”

This, perhaps explains why private equity and venture capital funds are interested in investing in Indian real estate. They believe that returns are not highly correlated to other asset classes.

The next question is how many real estate companies have got money from these funds? The answer is not many. It is worth remembering here that thousands of companies operate in the Indian real estate space all over the country. And once this is taken into account, the number of companies getting venture capital/private equity funding is essentially insignificant.

Further, at what prices are these funds buying into real estate companies or real estate projects. There is not much clarity on this front. It is safe saying here that the prices at which they are buying projects must be at a significant discount to the so called “market price” of real estate. So, in that sense there has been a price correction. The question is at what price will these companies sell these homes?

Meanwhile, the simplistic belief that a cut in home loan interest rates will revive the sector continues. As Sumeet Abrol of Grant Thorton India told The New Indian Express: “High interest rates and inflated prices were the major problems. Now one is resolved.” Really? The RBI cut the repo rate or the rate at which it lends to banks by 50 basis points (one basis point is one hundredth of a percentage) to 6.75%. In response the country’s largest bank, the State Bank of India, cut its base rate or the minimum interest rate a bank charges its customers, by 40 basis points to 9.3%.

This meant that the interest rate on home loans should have fallen by 40 basis points as well. Nevertheless, the interest rate on an SBI home loan will fall by only 20 basis points. Why is that? Earlier, the bank gave out home loans to men at five basis points above its base rate. To women, it gave out home loans at the base rate. Now it has decided to give out home loans to men at 25 basis points above the base rate. In case of women it is 20 basis points.

Hence, interest rate on a man taking an SBI home loan will be now be 9.55% (9.3% base rate plus 25 basis points). Earlier, the interest rate was 9.75%. This means a fall in interest rate of 20 basis points.

This means a fall in EMI of a little over Rs 13 per lakh of a home loan. Data from the National Housing Bank shows that in 2013-14, the average home loan size in India was Rs 18-19 lakh. I couldn’t find more recent data. Hence, we can assume that the average home loan size for banks would be around Rs 20 lakh now.

The housing finance company, HDFC, gives out average home loan size data every three months, along with its quarterly results. As on June 30, 2015, the average home loan size of HDFC stood at Rs 23.4 lakh.

Given this, an average home loan of Rs 20 lakh for the Indian banking system is a good number to work with. This means that the EMI on an average Indian home loan would fall by Rs 260 (Rs 13 multiplied by 20). So, will that lead to more people buying homes? Or was that stopping people from buying homes in the first place? I don’t think I need to answer that.

As Abrol of Grant Thorton India put it: “Real growth will be triggered only when builders are ready to cut property prices. If a revival is to happen in the sector, prices which were artificially moved up in the recent past in some areas, should come down to realistic levels.”

QED.

(The column originally appeared on The Daily Reckoning on October 6, 2015)

Here is some basic maths that the real estate wallahs need to learn

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I had thought that I will keep The Daily Reckoning free from any writing on real estate this week. But that won’t happen I guess.

Now getting back to the topic at hand. Earlier this week, the Reserve Bank of India led by governor Raghuram Rajan, presented the third monetary policy statement for this year. The RBI decided to maintain the repo rate at the current level of 7.25%. Repo rate is the rate at which RBI lends to banks and acts as a sort of a benchmark for the interest rates that banks pay for their deposits and in turn charge on their loans.

As is the case always whenever the RBI does not cut the repo rate, there were immediate calls from real estate companies, lobbies and others associated with the sector (or what I call the real estate wallahs) that the RBI should start cutting the repo rate in order to get the sector going again.

Manoj Gaur, president, CREDAI NCR, a real estate lobby told The Economic Times that he hopes that the RBI would cut the repo rate in the time to come. Pradeep Jain, chairman of Parsvnath Developers also told The Economic Times that reduction in the repo rate “will be key to revive sentiment in the real estate sector”. There is nothing surprising here given that the real estate wallahs have been doing this for a while now.

In the monetary policy statement, the RBI said: “Since the first rate cut in January, the median base lending rates of banks has fallen by around 30 basis points, a fraction of the 75 basis points in rate cut so far.”

What this means is that even though the RBI has cut the repo rate by 75 basis points (one basis point is one hundredth of a percentage), the banks have cut the interest rates at which they lend only by around 30 basis points on an average. Hence, home loan interest rates haven’t fallen by as much as the repo rate has.
The real estate wallahs caught on to this point as well. David Walker, managing director of SARE Homes told The Economic Times: “We urge the banks who have only cut rates by about 30 basis points to pass on the full benefit of the 75 basis points cut in rates by the RBI.”

All these quotes essentially give the impression that the RBI is responsible for the crisis in the real estate sector in India and all will be well once the home loan rates come down. Nothing can be more untrue.

Let’s do some basic maths and see. The RBI puts out the sectoral deployment of credit data every month. As per this data as on June 26, 2015, the total amount of home loans given by scheduled commercial banks stood at Rs 6,53,400 crore. Home loans have grown by a very good 15.6% over the last one year. This when the overall lending growth of banks stood at a much slower 7.3%.

How were things last year? As on June 27, 2014, the total amount of home loans given by banks had stood at Rs 5,65,000 crore. Home loans had grown by 17.1%. The overall lending by banks had grown by 12.8%, during the course of one year ending on June 27, 2014.

Between June 2014 and June 2015, overall lending growth of banks over a one year period, has crashed from 12.8% to 7.3%, a fall of 550 basis points. In comparison, home loan growth has fallen from 17.1% to 15.6%, fall of a much lower 150 basis points.

Let me throw in some more numbers. In the last one year, banks gave out home loans worth Rs 88,400 crore. This formed nearly 21% of the total loans given out by banks. Hence, for every Rs 100 worth of loans given out by banks, Rs 21 went towards home loans. This is much more than in the past.

How was the situation in June 2014? In a period of one year ending June 27, 2014, the total amount of home loans given out by banks stood at Rs 82,570 crore. This formed 12.7% of the total amount of loans given by banks. This number as on June 28, 2013, had stood at 12.2%.

What this clearly shows us is that there has been no slowdown on banks giving out home loans, despite interest rates continuing to remain high (in the words of the real estate wallahs). In fact, banks have lent more home loans as a proportion of their total loans in the last one year, than they did in the two years before that. So, home loan lending has no clear link with interest rates as the real estate wallahs would like us to believe.

The question is even though home loans are being given why has there been a fall in demand for homes, leading to builders ending up with a massive amount of unsold inventories. One explanation may lie in the fact that even though the total amount of home loans being given out has gone up at a steady pace, the total number of home loans being given out may be declining. This maybe happening primarily because of the massive increase in home prices over the last few years. And this massive increase has essentially ensured that even though the total amount of home loans has been going up, the total number of home loans may not be growing at the same pace. The RBI does not put out data regarding the total number of home loans.

The RBI sectoral deployment of credit data gives us some hint on this front. The home loan data can be divided into priority sector lending (essentially loans of up to Rs 25 lakh are categorised as priority sector) and non-priority sector lending.

The priority sector home loan lending has grown by just 3.8% during the last one year. On the other hand the non-priority sector home loan lending has grown by a massive 30%. The same numbers as of the end of June 2014 had stood at 7.9% and 30.7%.

Also, as on June 26, 2015, the priority sector home loans of upto Rs 25 lakh given over a one year period formed around 49.1% of total home loans. As on June 28, 2013, to years earlier, the priority sector home loans given over a one year period had formed nearly 59.4% of the total loans. As on June 29, 2012, the priority sector home loans given over a one year period had formed nearly 62.5% of total home loans.

What this tells us very clearly is that priority sector home loans (i.e. loans of Rs 25 lakh or lower) have been falling. And the only possible explanation for this is an increase in home prices.

To conclude, that is where the problem is. The real estate sector cannot be revived by cutting interest rates. It can only be revived by builders cutting prices. Further, a cut in prices will also get the black money wallahs looking for a good deal back into the market. The ball is in the builders’ court. There is nothing that the RBI can do about it.

 Postscript: I will be taking a break from writing The Daily Reckoning next week. I will be back after the independence day.

(The column originally appeared on The Daily Reckoning on Aug 7, 2015)

Banks have lent no new money to real estate this financial year

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It is very difficult to get hold of numbers when it concerns the real estate sector in India. The numbers usually put out are by organisations and institutions close to the real estate companies. The one genuine set of numbers that are put out every month is related to the total amount of lending carried out by scheduled commercial banks to the real estate sector in India. These numbers are put out by the Reserve Bank of India (RBI) as a part of the sectoral deployment of credit data, which is released once every month.

The latest set of numbers were released by the RBI on July 31, 2015, and make for a very interesting reading, especially if you have had a long(and perhaps lost) dream of buying a home to live in. Why do I say that? Allow me to explain.

As on June 26, 2015, the total amount of lending carried out by banks to the commercial real estate sector stood at Rs 1,66,900 crore. As on March 20, 2015, three months earlier, the number had stood at Rs 1,68,000 crore. Hence, the total amount of lending by banks to real estate companies has actually come down by around 0.7%. What can safely be said is that in the current financial year (which started on April 1, 2015) on an aggregate basis, the banks haven’t lent a single rupee to real estate companies.

How did the scene look like last year? As on March 21, 2014, the total amount of lending by banks to real estate companies had stood at Rs 1,54,400 crore. By June 27, 2014, the total lending had gone up by 1.7% to Rs 1,57,000 crore. This year the total lending has fallen by 0.7% during a similar period.

How do the numbers look over a longer horizon of one year? The lending to commercial real estate by banks has slowed down considerably. As mentioned earlier, as on June 26, 2015, the total amount of lending to commercial real estate by banks stood at Rs 1,66,900 crore. Over a period of one year, it has grown by just 6.3%. The overall lending by banks grew by 7.3% during the same period.

This is the third month in a row when the lending to real estate by banks has grown at a much slower pace than the overall lending. In fact, we need to look at numbers in June 2014 to realise how much the situation has changed over the last one year.

As on June 27, 2014, the total lending by banks to real estate companies had stood at Rs 1,57,000 crore. It had grown by 17.2% over a one year period. The overall lending by banks had grown 12.8%. Hence, the lending to real estate companies by banks had grown at a much faster rate than overall lending.
Further, lending to real estate companies by banks had grown by 17.2% last year. This year it has grown by only 6.3%. Also, as mentioned earlier, since the beginning of this financial year, the lending to real estate companies by banks has actually fallen.

And all this should be good news for buyers.  Why? For the simple reason that the funding source of real estate companies is drying out. Real estate companies have to repay the interest on the loans they had taken on previously. They also need to pay interest on it. Over and above this, there are projects that are still being built and need to be delivered by a certain date. Money will be needed for all these things.

All these reasons will ensure that the companies will have to get around to selling the unsold apartments that they have built and have been unable to sell. The number of unsold homes in cities across the country is huge. As per an estimate made by the real estate consultant Knight Frank the number of unsold homes in National Capital Region stands at around 1.89 lakhs. In Mumbai Metropolitan Region it stands at 1.94 lakh. In Ahmedabad the number is at 42,000. In Bangalore the number is at 1.05 lakh. And so the situation is all across the country.

The only way these unsold homes can be sold is by cutting prices. While the real estate companies have resisted this so far, with the funding from banks almost coming to a standstill, they really have no more options left in the days to come.

Finally, acche din should be on their way for those looking to buy homes to live in.

The column originally appeared on Yahoo India on Aug 4, 2015

This one number suggests that the real estate bubble may be fizzling out

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Every time I write a piece on real estate I am asked: “when will the real estate bubble burst?” This proverbial question remains very difficult to answer because of several reasons.
First and foremost we have almost no data on real estate. For something as simple as what is the going price in an area, one has to trust the brokers operating in that area. One may make that leap of faith and trust the broker, but how does one figure whether there are any transactions happening at that price? The broker has no incentive to be honest.
Further, there is no clear way of figuring out whether prices are rising or falling even at the aggregate city level. The
National Housing Bank(NHB) through the Residex index tracks prices in 26 Indian cities. But the index works quarterly. Further, the NHB takes way too much time to put out the data. Currently, the data is available upto the period between July and September 2014. We are in May 2015. Basically whenever the next data set of October and December 2014 will come out, it will be many months late, making even his broad indicator practically useless.
Also, the index possibly doesn’t take the black money component into account. Black money forms a substantial part of the real estate transactions in India. Further, any evidence of prices falling that come in is at best anecdotal. Typically, the way this works is that the journalist covering real estate calls up a few brokers he is close to, and they tell him that prices in such and such area are falling.
Given this, lack of numbers on the real estate sector in India, it remains very difficult to say when the prices will start to fall or have prices started to fall, for sure. Nevertheless, there remains one data point that one can take a look at and make some broad inferences out of it.
The Reserve Bank of India(RBI) puts out the sectoral deployment of credit data at the end of every month. The latest data for the one year period ending March 20, 2015, shows that lending to the commercial real estate sector by banks grew by 8.9% to Rs 1,68,000 crore. The overall lending by banks on the other hand grew by a very similar 8.6%.
What this tells us is that lending to the real estate sector during the last one year grew almost as fast as the overall lending by banks. This hasn’t been the case for a while. For the period of one year ending March 21, 2014, lending to commercial real estate by banks had grown by 22.4% to Rs 1,54,400 crore. During the same period overall lending by banks had grown by a much smaller 14%.
So what does this tell us? Bank lending to real estate companies had been growing at a faster pace than overall lending. This despite the fact that real estate companies were sitting on a huge amount of unsold inventory (As I have written on a
number of previous occasions). Also, the number of new launches that the real estate companies were coming up with had also come down significantly over the years.
Then why was lending by banks to real estate companies going up? What explains this possible disconnect? There is no straight forward answer to this question. To make a definitive statement on this, one would need the break up of the amount of lending to real estate comapnies by public sector banks and private sector banks. It would be interesting to see the growth in lending to this sector by public sector banks.
My guess is that over the years the lending by public sector banks to real estate companies has grown at a much faster pace than their overall lending. As I have mentioned in the past most Indian real estate companies are fronts for the ill-gotten wealth of politicians. And given this, a possible explanation for the lending to real estate companies growing at a faster pace than overall bank lending, is that the politicians have been forcing public sector banks to continue to lend to real estate companies.
And this has had several repercussions. As I mentioned earlier in the piece, lending to real estate companies continued to grow despite unsold homes piling up and a fall in new launches. So what were real estate companies using the borrowed money for?
This continued lending helped real estate companies to continue repaying their old loans to banks. Hence, new debt allowed real estate companies to pay off old debt. A perfect Ponzi scheme. It also allowed real estate companies to not cut prices on their unsold homes. If bank loans had not been so forthcoming, the real estate companies would have to sell off their existing inventory to repay their bank loans. And in order to do that they would have to cut prices.
The latest data from the RBI points out that this trend may now be coming to an end. As mentioned earlier the lending to commercial real estate over a one year period has grown by 8.9% whereas overall lending has grown by 8.6%. A possible reason could be the change in regime at the centre with the BJP led NDA government replacing the Congress led UPA government.
If this trend sustains in the months to come, and the lending to the real estate companies grows slower or around the same pace as overall lending by banks, then real estate companies will have to start selling their unsold homes at lower prices.
Further
as a recent report in The Economic Times points out: “Home sales plunged 17% in top six markets last year and unsold inventory level rose to 647,484 units, according to property consultant Knight Frank India.” This inventory has to start hitting the market at some point of time. The real estate companies cannot keep sitting on it endlessly. The only question is when.

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

The column originally appeared on Firstpost on May 5, 2015