So, real estate wasn’t such a great idea

The excited real estate multi-bagger story exchange in the investing classes heard over the past few years in Delhi and Mumbai has given way to a grimace and a despondent shrug. I know from anecdotal evidence that people are down as much as 50% on their properties in select locations in Gurgaon and Noida. The volume of conversation is only growing—I’m increasingly accosted in public places to give my views on the future of real estate. Kuchh hoga kya? I’ll come to that in a minute (and will try very hard to take the I-told-you-so tone out of the column, but…) but first, a look at how deep the bleed has been. I looked at the Residex, a real estate price index across 23 Indian cities constructed by the Reserve Bank of India-owned National Housing Bank (www.nhb.org.in/Residex/Data&Graphs.php).

The average rate of growth in housing prices from 2007 to 2014 for 23 Indian cities has been about 9% per year. Remember this is a very rough number since I have taken a simple average rather than a weighted one. I don’t have the data to do the weighted average calculation. Unpack this number and you see that Kochi has been the worst performing market—it has caused 100 to reduce in value to 88 over seven years, a loss of 2% annually. Chennai has been the best performing market, growing 100 to 362, a gain of 20% annually. Delhi has beaten the average with a 10% annual growth, so has Mumbai at 13%, but Bengaluru saw just a 1% annual growth in value.

Most stories that I’ve heard were of people who, looking at the price jump from 2009 to 2010 and halfway into 2011, had put in their money over 2012 and 2013. This is the investor lot that is bleeding the most. Residex shows that Delhi is the worst performing city with a one-year loss at an average of 6%. Mumbai prices grew 7% and Bengaluru remained flat. The Delhi two-year return of an average 3% unpacks to a loss of 2% per year for Zone B areas such as Safdarjung Enclave and a loss of 8% a year for areas such as Punjabi Bagh. Post-inflation, these numbers look even worse.

Why did it happen? Real estate has been overbought for a long time. To see how much out of sync prices were, you had to just look at yields on real estate that have hovered around 2% in Delhi and Mumbai. Yield is the annual rent divided by the property’s capital value. A true measure of yield would build in costs of maintenance and other housing society fees that are an outflow. At a yield of 2%, you are better off putting money in a deposit and earning a 6% post-tax return rather than buying a property for investment. But real estate is seen as a capital multiplier and yield is not really of consequence.

Two things you need to remember if you hold this view. One, you need to time the market and the location to make a killing in real estate. Two, the average annual return on real estate over the long term is less than average equity return in India. The other reason for the price slump is the crackdown on black money. Real estate and gold are the sumps for dirty money and the fact that a clean-up has been so difficult points to rule makers being invested in keeping opacity as the status quo. The Narendra Modi government is at least talking consistently about an attack on black money. The real estate market is watching to see if this time the government is serious or not. If it is, then expect the current slump in real estate to deepen for the non low-cost housing markets. At current price levels, you are better off buying for investment in Europe than in Gurgaon.

I find real estate a messy and clunky investment that needs one to turn white money black to make a deal or allows one the moral right to continue earning in cash and funnelling it into land, saying that’s how it is in India. I find it illiquid—you can’t sell a room to fund a child’s overseas study plan. The lead time between wanting to sell and actually selling can be very high. Also, the possibility of a distress sale are very high if you need the money quickly.

So, what should real estate investors do right now? Cut your losses. If you already live in your own home and have invested in a property that is yet to be completed, get out of it. Builder books look terrible and some of you are in for a long wait before the project completes. Keep about 25 lakh of loan per person to milk the 2 lakh loan deduction allowed, and repay the rest of your home loan with the value realized.

What about investment? The usual Mint Money rules apply: maximize your provident fund deduction, salt away the maximum in Public Provident Fund, and then invest the rest in equity funds through a systematic investment plan. A low-cost, low-maintenance way to hands-free investment.

Monika Halan works in the area of financial literacy and financial intermediation policy and is a certified financial planner. She is editor, Mint Money, Yale World Fellow 2011 and on the board of FPSB India. She can be reached at expenseaccount@livemint.com