Deepak Parekh on Indian real estate sector

Published: September 27, 2008

Deepak Parekh has been ‘Bhishma Pitamah’ of Indian real estate sector for many many years now.

He recently articulated about the Indian realty sector slowdown in a speech at FICCI real estate summit.

Here are the key aspects of his speech, where he gives a very nice 20,000 miles picture of this whole slowdown thing -

  • About the slowdown - Patience is the first step to immunise against sudden changes in the real estate market. Such cycles are inevitable and will continue to come and go. I do not think we need to be too concerned about a slowdown in the real estate market - a long, overdue adjustment was needed and this, to some extent has already happened.
  • Why cycles get created? - The real estate market grew too fast for its own good, some developers went hopelessly haywire on land deals resulting in prices spiralling uncontrollably and investors began demanding unrealistic returns. When these investors retracted, many developers were left scrambling for resources, prices fell, confidence was shaken. Land is the riskiest form of speculative real estate, which is why there are huge swings in land value. The ironic thing about land is that only when there is demand to develop the land does the value increase, thereby yielding huge profits. Similarly, when demand stalls, land can lose value really quickly because there are few other ways to generate that kind of income from land. This has been the root cause of all the problems faced in land acquisition.
  • Who pays the price? - Investors, who now have to deal with valuations that have been beaten down to pulp; Certain developers who find themselves cash-strapped for having committed to buying land at exorbitant prices with no takers for their projects; And finally, there is pain for those lenders who carelessly doled out funds to developers without understanding the ground realities…Ultimately, there is no substitute for prudent lending, irrespective of whether the market is going through a boom or bust phase.
  • Insanities prevailed in markets - Realty stocks were completely overvalued – some by close to 50 to 60% at the time of their IPOs, so what one is seeing is more in line of a correction. There is an understanding that real estate companies cannot be valued on the basis of their land banks, but on projects that are actually being executed… One’s behavior in a bull market is often a reflection of how one behaves in a bear market. The key point is that one’ s basic business policies and practices should not be compromised or vary with market cycles. The sub-prime crisis is a case in point. As long as house prices kept increasing and interest rates kept coming down, lenders became so lax that even an appraisal of a borrower was considered almost unnecessary.
  • The mall mania - Identifying genuine demand is critical and one should not be swayed by herd mentality. With the real estate boom came ‘mall mania’. The oversupply of mall plans was very apparent but the overestimation of the spending power of the average Indian was way off mark. Malls increasingly became the place to ‘hang out’ or eat and therefore most retailers with paltry sales were unable to sustain rentals that rocketed as high as Rs. 300 to 600 per sq. ft. Today, the top eight cities in India are already witnessing a 20% vacancy across 40 million sq. ft. of operational malls and I suspect there will be more vacancies coming around.
  • What should developers do? - For those developers caught in a cash bind, they need to realize that their absurdly high margins cannot sustain.There are certain developers who have refused to relent on prices, despite a slowdown on sales and curbs on their funding sources. It is unfortunate to see this ostrich like approach where these developers would prefer to put themselves on the brink or pay exorbitant interest rates rather than lower their prices and tide over their financial crunch.
  • About high percentage of debt - Developers need to guard against the dangers of excessive borrowing. Leverage works like a double-edged sword – in the good times it magnifies returns, but on a downturn, it can eat you alive. If you live off too much of borrowed money, even the best risk management systems cannot save you.
  • Affordable housing is the key - The more nimble developers have already been able to shift to other opportunities such as affordable housing, which is a clear departure from their earlier focus on the high-end luxury homes segment. In India, housing if priced correctly has an enormous demand and given the huge housing shortage, it is unlikely that there will be any saturation in the market for a long time to come.
  • What should a consumer do? - The fourth lesson pertains to the buyer and his psyche. A cardinal rule is that you cannot time the real estate market. Do not sit on the fence – if you find the right house go ahead and buy it. Even interest rates, over a 15-year period will inevitably move up and down. The other lesson for the borrower is not to overstretch on a loan and maintain a sufficient buffer.
  • What should the government do? - The last lesson is the compelling need to push through our long-standing, unfinished agenda – namely increasing transparency in the real estate market, simplifying land acquisition procedures, reducing stamp duties, devising a single-window clearance system and reframing development control rules to meet the present requirements and supporting infrastructure. There is also a growing consensus for a real estate regulator as evidenced in the latest E&Y-FICCI real estate report.
  • Long term prospects in tact - As regards capital raising options, while the IPO market may take time to recover, there is sufficient interest from foreign investors to partake in the Indian real estate market through the private equity and FDI route. In the first quarter of the financial year, about 20% of FDI inflows were in housing and real estate. So long-term prospects of the commercial real estate market continues to remain positive owing to growing opportunities in sectors like healthcare, hospitality, logistics and education.
    The residential housing market will also continue to show robust growth given the strong demand, favorable demographics, increasing urbanization and rising disposable incomes. I do believe that the Indian real estate market has been relatively unscathed when compared to many other countries where the housing markets have slumped. In the US, bank losses and write-downs from the year-long sub-prime crisis have crossed US$ 500 billion.
  • India relatively insulated - In US the ‘too big to fail’ entities eventually needed tax payer’s money for a bailout. Even our neighbor, China whose economy we so often look at with envy, has not been spared from the property market crisis. Efforts to cool the Chinese property markets include hard-line measures such as sharp increases in interest rates, vacant land taxes and imposing a mandatory 40% down payment on second home mortgages. Despite this, many Chinese developers are reportedly heading towards bankruptcy. Comparatively India has been more fortunate, having identified early signs of a heating real estate market with the RBI stepping in to take quick corrective measures.
  • Ending note - In India, we need to continue to strive towards the challenge of housing more people. ‘Housing for All’ is often wielded as political rhetoric, but we must not lose sight of the importance of building a property owning democracy. A civilized society depends on having the greatest possible number of people who have a stake in society. Being a homeowner gives one a secure and direct stake in society; so that is the goal we need to work towards.

Surely, these are the words of a man who has seen it all…many times over!

Posted under categories: Indian Real Estate, Indian economy

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1 Comment so far

  1. A K GUPTA May 13, 2009 12:59 pm

    I want a residential plot in the vicinity of 10 to 11 lakhs

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