Thinking of buying real estate? This one is for you!

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Real estate buying is a big ticket expense requiring certain degree of support in the form of home loans. This endeavor though is in general considered to be low risk, especially by people with regular income. It may not seem so surprising then that many individuals who are uncomfortable with investing in the equities market because of their loss averse nature, are ready to invest a sum 20,50 and may be even 100 times their investment in equities market. They are comfortable committing themselves to this kind of nominal investment over 20-30 years (while the real investment including the interest cost is 3 to 4 times of this amount over the life of the loan). A big reason behind this is the general belief that real estate prices only go up. To be sure many people have benefited from such investments, specially if they were made before the 2007-2008 crisis. Add to this the fact that the current prices of real estate are well above their 2007-2008 levels in most cities, and the notion that real estate prices only go up seems very true. But before you go ahead and book another house we want you to have a look at couple of charts. The chart below is that of CNX Reality consisting of most valuable real estate companies trading on the NSE stock exchange.

You don’t need us to tell you the index peaked in 2008, and is languishing 80% below today. Not surprising that since heavy weights in the index like DLF languishing at Price to book of below 0.8. Implying the assets to be worth lower than what they are on books. However this chart really made us curious when we looked at it against this next chart from RBI’s recent publication:

The divergence between the RPPI Price Index of Real estate and the performance of CNX Realty index is quite stark. Such divergences are likely to be corrected over time, and would require either a significant rally in stock prices of companies or significant correction in the prices of real estate. In order to decide on whether the real estate prices correct or stock prices rally consider the following:

1. Unsold inventory in Mumbai Metropolitan Region is close to 48 months. The same figure for NCR is 72 months. So the current inventory of houses in NCR will take 72 months to clear at current rate that is 6 years!

2. In case you thought the above would easily be cleared because of Modi effect. Then here is another statistics, home sales in top 6 cities are down over 8% in the year ending March 2015 compared to previous year.

3. Think that income growth could lead to growth in sales to reduce the inventory quickly, then consider what First Post puts so eloquently:

“The inventory of unsold homes as on 31 March 2015 stands at 6.88 lakhs up by 2.5% in comparison to December 2014”

“This is not surprising given that average home prices are way beyond what people can afford to buy. In Mumbai, the average price of a home is Rs 1.3 crore. In Bangalore, it is Rs 86 lakh. And in the National Capital Region it is Rs 74 lakh. A February 2015 report brought by business lobby FICCI estimates that the number of dollar millionaires (i.e. with assets of Rs 6 crore or more) in India in 2014 stood at around 2.27 lakhs, up from 2.14 lakh in 2013.

Compare this to the average home prices in cities and it becomes clear that these prices have gone way beyond what even the upper crest of the population can afford. Given this, it is not surprising that so many homes are unsold.”

3. Just in case if the existing inventory was not enough as the research firm Liases Foras reports new supply in the quarter rose 21% over the previous quarter. Quoting another report from first post:

“Mumbai, for instance, witnessed historic new launches with 18.16 million square feet of new launches during the quarter gone by. This was the second highest new launches in a Qtr in MMR.”

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