Vivek Kaul's

(In)Complete Guide to
Real Estate

Brought To You By:

 Vivek Kaul's

(In)Complete Guide to
Real Estate
Disclaimer
Equitymaster Agora Research Private Ltd (Equitymaster) is the owner of the copyright in these columns (‘Guide’). The readers are
requested to note that this Guide is only meant for personal use of the Subscribers of Equitymaster. Any act of copying, reproducing or
distributing this Guide whether wholly or in part, for any purpose without the permission of Equitymaster is strictly prohibited and shall
be deemed to be copyright infringement.

This Guide is for information purposes and is not providing any investment advice through it and Equitymaster disclaims warranty of any
kind, whether express or implied, as to any matter/content contained in this Guide, including without limitation the implied warranties
of merchantability and fitness for a particular purpose. Information contained in this Guide is believed to be reliable but Equitymaster
does not warrant its completeness or accuracy. This is not an offer to sell or solicitation to buy any securities and Equitymaster will not be
responsible for any loss or liability incurred by the user as a consequence of his taking any investment decisions based on the contents of
this Guide. Use of this Guide is at the user’s own risk. The user must make his own investment decisions based on his specific investment
objective and financial position and using such independent advisors as he believes necessary.

SEBI (Research Analysts) Regulations 2014, Registration No. INH000000537

© Equitymaster Agora Research Private Limited. 103, Regent Chambers, Above Status Restaurant, Nariman Point, Mumbai - 400 021.
India. Telephone: 91-22-6143 4055. Fax: 91-22-2202 8550. Email:[email protected]. Website:www.equitymaster.com.
CIN:U74999MH2007PTC175407

(In)Complete Guide to Real Estate | 2

 Preface

I would take this opportunity to welcome the new

readers of The Daily Reckoning. As regular readers of
The Daily Reckoning would know, in the recent past,
I have written many columns on real estate and why
it’s best to stay away from the asset class as of now. My
analysis and from what I hear from people all across
the country, tells me that real estate prices are on their
way down.

Every column leads to more questions and even more theories on why real
estate prices cannot fall. At the same time every column is incomplete in
itself given that it cannot talk about all the factors that need to be taken into
account while making an investment decision.

Given this, we at Equitymaster decided to put together a package of what we

think are the most important real estate columns that have been published in
The Daily Reckoning. These columns should help give you a better picture
of things as they stand. Given the many factors that influence real estate
prices, this guide, like the columns on real estate, is also incomplete.

Having said that it is more complete than the columns.

Happy reading!

Vivek Kaul
Editor, The Daily Reckoning

August, 2015

3 | (In)Complete Guide to Real Estate

“(In)Complete Guide to Real Estate”
TABLE OF CONTENTS

Page
__________________________________________________________________
CHAPTER 1
5
What Narendra Modi can and should do for Indian real estate
__________________________________________________________________
CHAPTER 2
9
The RBI cannot revive Indian real estate
__________________________________________________________________
CHAPTER 3
Mumbai real estate is like a super-expensive 13
Maybach-what we need are Tata Nanos
__________________________________________________________________
CHAPTER 4
16
A few confessions on real estate forecasting
__________________________________________________________________
CHAPTER 5
20
The "confirmation bias" of a real estate investor
__________________________________________________________________

Vivek Kaul's Advertisement

‘Easy Money’
Get This Trilogy Worth Rs 1,215 For FREE!
Vivek Kaul, Editor of the Daily Reckoning,,
y,
is a master storyteller. And in this trilogy,
he tells us probably one of the most
important stories that has yet been told... ..
the story of Money.

A highly recommended read that teaches s

e
you lessons that could help you avoid the
next global meltdown. Don't Miss It!

Claim your Free set worth Rs 1,215

now...

Hurry! We only have limited copies of Vivek Kaul’s 'Easy Money' Trilogy
books to give away.

(In)Complete Guide to Real Estate | 4

 CHAPTER 1

What Narendra Modi can

and should do for Indian real estate

I decided to write this column after a friend asked me to "stop ranting" and come
up with something constructive instead. So here we go.

First and foremost it is important to realize why a healthy real estate sector is
necessary for economic growth. Real estate has tremendous forward as well as
backward linkages, which leads to what economists refer to as the "multiplier" effect.

The multiplier effect can be both direct as well as indirect. The direct effect comes
from the demand in the construction sector for products from other sectors. A house
that is being built needs cement, wood, glass, bricks, sand, electrical equipment etc.

As Fatih Terzi and Fulin Boren write in a research paper titled An Analysis of
the Development Between Housing and Economic Development: "The multiplier
effects of housing [come] through the creation of investment in other sectors
generated by the demand in the construction sector for their products. The builders
buy raw materials for the building and hire transport to move them." These are
essentially referred to as backward linkages."

Then there are forward linkages as well. "The occupants of the houses buy
furnishings and fittings, and pay for maintenance, all of which creates paid
employment and the use of materials," write Terzi and Boren.

The indirect effect comes because of the money being spent in the local economy
by those benefiting from the direct effect of construction of homes. As Keith
Wardrip, Laura Williams, and Suzanne Hague write in a research paper titled The
Role of Affordable Housing in Creating Jobs and Stimulating Local Economic
Development: A Review of the Literature: "During the construction of affordable

5 | (In)Complete Guide to Real Estate

housing - or any kind of housing, for that matter - the local economy benefits directly
from the funds spent on materials, labor, and the like. If the builder is purchasing
windows and doors from a local supplier, the supplier may have to spend money
on materials and hire additional help to complete the order - examples of indirect
effects. Finally, the construction workers, glass cutters, and landscapers are likely
to spend a portion of their wages at the local grocery store or shopping mall, which
illustrates induced effects."

One estimate puts the number of total such linkages to 270. Given these reasons
a vibrant real estate sector is a necessity for a vibrant economy. In fact, a study
commissoned by HUDCO found that housing came third among 14 major sectors,
in terms of the linkages that it had with other sectors. This tells us how closely
linked a vibrant real estate sector is to the overall economy.

The latest Economic Survey of the government makes this point as well when
it states: "Housing activities have both forward and backward linkages which
not only contribute to capital formation, generation of employment, and income
opportunities but also to economic growth. Estimates show that every rupee
invested in housing and construction adds 78 paise to the GDP."

Nevertheless, these linkages come into play only when homes being built are also
being sold. But as we saw in the column published on January 19, 2015, that doesn't
seem to be the case. Most homes being sold in cities are way beyond what most
people can afford. In fact, a friend on reading the January 19 column quipped,
"forget taking on a loan to buy a home, how many people even have enough money
to make the 20% down payment required on the home". Typically, most banks
finance up to 80% of the home price. The remaining money needs to be made by
the borrower of the loan as a downpayment.

Given this, affordable housing is something that should be a huge priority for the
government. The Report of the Steering Committee on Urbanization released in
November 2012 points out: "approximately 24 percent of India's urban population
resides in slums. The proportion of slum dwellers in large metropolitan areas is
higher. For example, according to Census 2011, 66 percent of the population in
Mumbai Metropolitan Region (MMR) lives in slums."
Further, "not all slum dwellers are poor but the extreme scarcity of housing for
low income groups has led to them living in slums." Living in slums also leads to

(In)Complete Guide to Real Estate | 6

inadequate access to basic sanitation facilities and potable water.

The issue of affordable housing becomes even more important when one takes
into account the fact that the number of people living in cities is going up day by
day. "Nearly 30 per cent of the country's population lives in cities and urban areas
and this figure is projected to reach 50 per cent in 2030. The present urban housing
shortage is 18.78 million units of which 95.6 per cent is in economically weaker
sections (EWS) / low income group (LIG) segments and requires huge financial
investment," the Economic Survey points out.

So, the question is what can the Narendra Modi government do to making housing
more affordable? The solutions on offer are not easy to implement. Neither can
they change things overnight. Nevertheless, the work needs to start someday and
the sooner it starts the better it will be.

The situation can be improved significantly if some of the land that the government
has been sitting on can be made available for affordable housing. KPMG in a report
titled Affordable Housing - A key growth driver in the real estate sector points out
"The government holds substantial amount of urban land under ownership of port
trusts, the Railways, the Ministry of Defence, land acquired under the Urban Land
(Ceiling and Regulation) Act, the Airports Authority of India and other government
departments."

The question is will this happen? More land in the market will lead to land prices
falling. And this is something politicians will not like given that their ill-gotten
wealth is held through benami land as well as real estate. As Bombay First points
out in a report titled My Bombay My Dream "Government and the land mafia in
fact do not want more land on the market: after all, you make more money out of
the spiralling prices resulting from scarcities than you could out of the hard work
that goes into more construction."

Nevertheless the basic issue is the huge amount of black money that comes into
the real estate sector. If real estate has to become affordable something needs to be
done on this front. While the Narendra Modi government has been very aggressive
about getting back all the black money that has gone abroad, they haven't said much
about trying to recover the black money that is there in the country.

7 | (In)Complete Guide to Real Estate

 This money would be considerably easier to recover vis a vis the black money
that has already left the shores of the country. Also, in this day and age a lot of
information technology can be used to figure out who are the individuals who are
not paying taxes.

The government can learn from what happened in Greece. In order to recover
black money, the Greek government used Google Earth to track those who have
swimming pools and then cross indexed their address with the amount of tax they
are paying. Ideas along similar lines which use information technology extensively
in order to identify people who are not paying the correct amount of income tax,
need to be come up with.

In the February 2013 budget speech, the then finance minister P Chidambaram
had estimated that India pointed out that only 42,800 people in India had a taxable
income of Rs 1 crore or more.

This in a country where 27,000 luxury vehicles are sold every year. Self employed
professionals like property dealers, doctors, etc., need to be made to pay their fair
share of income tax.

Of course, the income tax department does not have the resources to go after
everybody. Hence, it is necessary that a few pilot projects may be implemented in
different parts of the country and depending on results things can be taken forward.

I am no expert on real estate but I am sure that there are lots of other things that
can be done to break the backs of those who are pouring their black money into real
estate. The only thing required is the political will. The question is does Narendra
Modi have that will? The nation wants to know.

(In)Complete Guide to Real Estate | 8

 CHAPTER 2

The RBI cannot revive Indian real estate

Raghuram Rajan took over as the governor of the Reserve Bank of India (RBI) in
September 2013. Since then, real estate companies and associations that represent
these companies have been asking (i.e. putting it politely) for a repo rate cut. The repo
rate is the interest rate at which RBI lends to banks and acts as a benchmark for the
interest rate at which banks borrow money and in turn, the interest rate at which
they lend.

Every time Rajan did not cut the repo rate, real estate companies and associations
representing them, put out statements in the media saying how high interest rates
were hurting the sector and were the main reason why people were not buying
homes that were being built.

Hence, when the RBI decided to cut the repo rate last week(in Janurary 2015),
the real estate companies had a reason to rejoice. Take a look at this statement
made by Rohit Raj Modi, President of the Confederation of Real Estate Developers'
Associations of India (CREDAI) in the National Capital Region: "We have been raising
the concerns of developers over higher rates from the government. We are happy
that RBI has taken a step by cutting the rates. We expect that this will encourage
banks to ease their home loan rates...This will help developers to expedite their
projects which were otherwise facing fund crunch. Home buyers' dreams of owning
a home would also get a boost as we expect an accelerated purchase cycle".

The most important part of the statement is the last sentence which I have
italicized. Modi, who represents the real estate developers in and around Delhi
feels that a 25 basis cut in the repo rate by the RBI will lead to more people buying
homes.

This is a sentiment echoed by Rajiv Talwar, DLF group executive director. As

9 | (In)Complete Guide to Real Estate

Talwar told the PTI: "The move would definitely encourage buyers now to invest in
new homes." [interestingly, Talwar uses the word invest and not buy].

Weighted Average Per Capita

City Years Inventory
Price of a Flat Income

Mumbai Metropolitan
Rs 1.34 crore Rs 1.97 lakh 68 years 50 months
Region

National Capital
Rs 75 lakh Rs 2.31 lakh 32.5 years 83 months
Region

Bangalore Rs 88 lakh Rs 1.08 lakh 81.5 years 41 months

Pune Rs 58 lakh Rs 1.83 lakh 31.7 years 23 months

Hyderabad Rs 75 lakh Rs 1.46 lakh 51.4 years 38 months

I wonder where this confidence comes from. The real estate story has gone beyond
interest rates and EMIs for a while now. People are not buying real estate simply
because it is too expensive. It has been priced way beyond what they can afford.

Take a look at the following table. The weighted average price of a flat in Mumbai
is Rs 1.34 crore. The average per capita income of a Mumbaikar is Rs 1.97 lakh.
This means that it takes 68 years of average per capita income to buy a flat in the
Mumbai Metropolitan Region. For Bangalore, the number is at 81.5 years. This is
a little difficult to believe. The average income of Bangalore is Rs 1.08 lakh. The
number is very low in comparison to the average income of other cities considered
in the table. The reason for it is that I have used the per capita income of Bangalore
division (which is what I could find in the Karnataka Economic Survey of 2013-2014) and Bangalore
division includes not just Bangalore but also other places like Kolar, Shimoga,
Tumkur etc., where per capita incomes are lower than that in Bangalore and hence,
drag down the overall number.

What this table clearly tells us is that Indians are not buying homes to live in
primarily because homes are priced way beyond what is affordable. This becomes
clear at the massive inventory numbers being reported (as can be seen from the table).
"Months inventory denotes the months required to clear the stock at the existing
absorption pace. A healthy market maintains 8 months of inventory," points out
Liases Foras, a real estate rating and research firm in a report.

(In)Complete Guide to Real Estate | 10

 The following table shows very clearly that the months inventory across major
cities is way over the healthy level of eight months and high price is the only possible
explanation for it.

Number of times healthy

City Inventory
inventory of 8 months

Mumbai Metropolitan
50 months 6.25
Region

National Capital Region 83 months 10.375

Bangalore 41 months 5.125

Pune 23 months 2.875

Hyderabad 38 months 4.75

One criticism of this piece of analysis which I can immediately see coming is that
the average income of a city hides all kinds of variations. So, for a city like Mumbai
it would also take into account the incomes of people who live in slums. And these
people should not be considered because they cannot afford the flats being built.
The point is that no one stays in a slum by choice. People stay in a slum because
they cannot afford proper housing.

Another point that I would like to make here is that when such analysis is carried
out in developed countries they consider the ratio of weighted average price of
a home and disposable income. I had to make do with average income primarily
because I could not find any disposable income data for Indian cities (I would be
grateful to anyone who could lead me to such data, if it exists).

Nevertheless we can make an assumption that around 40% of income is disposable

income (I guess that is on the higher side, but let's just go with it and see how the numbers work out.
Also, I am leaving Bangalore out of the calculation for reasons already explained). The following
table shows how crazy the situation actually is.

11 | (In)Complete Guide to Real Estate

 Weighted Average Per Capita Disposable
City Years
Price of a Flat Income Income

Mumbai Metropolitan
Rs 1.34 crore Rs 1.97 lakh Rs 78,800 170
Region

National Capital Region Rs 75 lakh Rs 2.31 lakh Rs 92,400 81.2

Pune Rs 58 lakh Rs 1.83 lakh Rs 73,200 79.2

Hyderabad Rs 75 lakh Rs 1.46 lakh Rs 58,400 128.4

Assuming that disposable income is 40% of average income it would take 170
years of disposable income to buy a flat in Mumbai. Hyderabad comes in second at
128.4 years. In fact, in a recent article in the Business Standard columnist Bhupesh
Bhandari made a similar point when he wrote: "According to one study, it will take
an Indian with the average per capita income 580 years to buy a top-end property
in Mumbai, compared to 65 years in Hong Kong, 62 years in Paris and 47 years in
New York."

So, the real estate companies and media reports may keep blaming high interest
rates for people not buying homes, but that isn't really the case. Edelweiss Capital
expects the RBI to cut the repo rate by further 100-125 basis points by March 2016.
I can say this with confidence that unless real estate prices fall, even with such a
massive cut in the repo rate (which is likely to lead to lower home loan rates) home sales
won't pick up. I can also say with confidence that the real estate companies will
continue blaming the RBI. But RBI clearly does not have a solution to this problem.

(In)Complete Guide to Real Estate | 12

 CHAPTER 3

Mumbai real estate is like a

super-expensive Maybach
-what we need are Tata Nanos

The Financial Express had a very interesting newsreport on the super-luxury real
estate market in Mumbai, a couple of days back. As per this report around 5,000
upmarket flats in Mumbai that are built and ready to occupy, have not been able to
find any buyers.

And how much do these flats cost on an average? The Financial Express estimates
that each of these flats costs at least Rs 10 crore. Hence, the total market value of
these unsold flats is at least Rs 50,000 crore. That clearly is a lot of money.

As the newspaper points out: "Sales are tepid in central Mumbai - Lower Parel,
Mahalaxmi, Prabhadevi and Parel. In these areas, the apartment sizes are typically
between 4,000 sq ft and 7,000 sq ft accommodating three, four and five bedrooms.
At the very least, they cost Rs 10 crore or approximately Rs 25,000 to Rs 30,000 per
sq ft." Interestingly, anyone who has moved around in this area would know that
there are many other properties still under-construction and will hit the market
over the next few years. So, this oversupply is unlikely to go any time soon.

In fact, super-luxury is not the only segment where sales are slow. Liases Foras,
a real estate rating and research firm, estimates that the Mumbai Metropolitan
Region has 46 months of unsold inventory of flats currently. "Months inventory
denotes the months required to clear the stock at the existing absorption pace. A
healthy market maintains 8 to 12 months of inventory," Liases Foras points out.

Further, the sales velocity or the ratio of monthly sales to total supply currently
stands at 1.05% in Mumbai. Liases Foras considers a sales velocity of 2.75%
optimum as it translates into a gestation period of 36 months. And despite the slow

13 | (In)Complete Guide to Real Estate

sales, launches of new home projects have remained on a firm footing in Mumbai.

During the period January and March 2015, the Mumbai Metropolitan Region
witnessed new launches of 18.16 million square feet. This amounted to the second
highest new launches ever-the highest having been in April to June 2010. What is
interesting is that the new launches form around 9.5% of the total unsold space of
192.27 million square feet.

Within this total unsold space, the maximum is for flats which are priced at Rs
2 crore or more. 62.06 million square feet of home space remains unsold in this
category. This is around 32.3% of the total unsold inventory of flats in Mumbai.

The weighted average price of a flat in the Mumbai Metropolitan Region is around
Rs 1.3 crore. Banks and home loan companies give a loan of 80% of the price of
property. Hence, on a flat which is available for a price of Rs 1.3 crore, the bank
would give a home loan of Rs 1.04 crore. The remaining Rs 26 lakh would have to
be paid by the buyer.

Further, the EMI on this loan at 10% interest and repayable over a period of 20
years, would amount to over Rs 1 lakh per month. Hence, in order to get this loan
the buyer would need to have a monthly income of Rs 2.5-3 lakh per month. How
many people have that kind of income?

Hariprakash Pandey, senior vice-president, finance and investor relations, at

Mumbai-based developer HDIL, recently told Business Standard that flat prices in
Mumbai had gone beyond Rs 1.5-2 crore and this meant that homes were beyond
the reach of the middle class. As he said: "If you take a loan of Rs 1.5 crore, you have
to pay an EMI of Rs 1.5 lakh. For that you should have a monthly income of Rs 4-5
lakh."

This was a rare occasion of an individual who makes his money in the real estate
industry admitting that there is a problem. The usual tendency till date has been to
blame the slowdown in the real estate industry on high interest rates and the fact
that the Reserve Bank of India was not doing enough to bring them down.

This as I have often pointed out in the past is a very stupid argument.
All these numbers have some lessons to offer. First and foremost is the fact that

(In)Complete Guide to Real Estate | 14

the Indian real estate is now way beyond the affordability levels of the rich as well
and not just the salaried middle class, as Pandey of HDIL pointed out.

The Indian real estate companies have stopped catering to demand. As Dhirendra
Kumar rightly points out in a recent column: "It's as if the car industry would try
to sell nothing but large BMWs, Mercedes and Jaguars while most of the country
yearned for cheaper cars."

I think I would go a step ahead and say that "it's as if the car industry would try
to sell nothing but Maybachs." (Maybach is incidentally also made by Mercedes).

The second learning here is that the real estate industry has been for long catering
to the real estate investor rather than the real estate buyer. But now this business
model seems to be breaking down as well. Take the case of Mumbai-as pointed
earlier, the city has 5,000 upscale flats with a price tag of greater than Rs 10 crore,
which are lying unsold. And more such flats are still being made.

Even in a city like Mumbai it would be difficult to find so many genuine buyers
who would have the ability to cough up Rs 10 crore or more for a home to live in.
And those who have that kind of ability, already have a home or two to live in.

It now seems that the price is beyond what investors would like as well. Even with
all the black money going around in the country, there is only so much of real estate
that can be bought. Also, at a price of Rs 10 crore or more, what kind of returns can
the investor really expect is a question worth asking?

To conclude, it is worth pointing out a couple of numbers from the latest

Maharashtra State Economic Survey. The per capita income in Mumbai in 2013-
2014 was at around Rs 1.88 lakh. In Thane, it was Rs 1.73 lakh. And we are selling
homes priced at greater than Rs 10 crore. Who is the joke on? And when will we get
around to building and selling flats at prices at which there is real demand?

Mumbai real estate is like a super-expensive Maybach - What we need are Tata
Nanos. Or maybe even bicycles.

15 | (In)Complete Guide to Real Estate

 CHAPTER 4

A few confessions on
real estate forecasting

In the recent past I have clearly said that I expect the real estate prices to continue
to fall in the time to come.

In response to this point a question that gets often asked is: "Should I buy a home
now?" This is a very difficult question to answer, given that it has zero information
built into it. It doesn't tell me where the person asking the question is based out of.
Does he want to a buy a home to live in? Or is he looking to invest? Further, what
is the financial situation of the individual? So on and so forth.

I will try and answer this question in today's column in a fairly general sort of way.
If you are looking to invest in real estate this clearly is not the time to invest, given
that the prices are falling and the return over the last one year has been extremely
subdued. The time to invest in real estate will come once the prices have fallen from
the current levels.

How about buying a home to live in? That really depends on your financial position
and how stable you are in the current rented accommodation you are living in. If
the landlord is likely to let you continue to live, then it is best to wait it out. You will
definitely get a better deal in the days to come.

If he is not and you have enough money going around then it is best to buy a
home. Obviously, you need to ensure that you aren't using up all your savings in
making the down-payment and stretching your home loan limit to the hilt. While
you will end up paying more now than if you were to buy a home somewhere down
the line, there will be other happier things to look forward to.

The social pressure that comes with not owning a house will go away. The child

(In)Complete Guide to Real Estate | 16

 will have a more stable environment to live in. And given these reasons,
(or children)
if you have the money and need a home to live in, it makes sense to go ahead and
buy one.

All this comes with a small caveat-if you are thinking of buying a home in the
National Capital Territory, be very careful. As Santhosh Kumar, CEO - Operations
& International Director, JLL India recently wrote: "The National Capital Region
(NCR) has some locations that buyers are best advised to avoid. Various issues like
delays in delivery, oversupply, speculation and infrastructure deficit have been
plaguing these markets, rendering them unsuitable for first-time home purchase."

Another question that is often asked is: "By when do you think price of real estate
will fall dramatically?" This remains a very tricky question to answer because there
is no credible price-volume data going around on Indian real estate. (i.e. how many
homes were sold and at what price).

The only real estate data that is available at the agglomerated level is supplied
by real estate consultants. The trouble is that these consultants make more money
when the real estate sector is doing well i.e. prices are on their way up. Given that,
even though the data supplied by them is showing excessive inventory of unsold
homes and more or less flat prices on an average across the country, the actual
situation might be much worse (which means the crash in real estate prices might happen
sooner rather than later, but this cannot be said for sure).

Further, the data supplied by real estate consultants is at best limited to metropolitan
cities. Given that, there is almost no information about the price-volume trend of
real estate beyond the top cities in the country. So how does one predict, when will
prices fall dramatically all across the country without much data?

Further, the real estate indices that India are not "real time" enough. The two
main indices put out by the National Housing Bank and the Reserve Bank of India,
are really not up-to-date.

Then there is the biggest variable of them all: black money. How does one figure
out whether the total amount of black money going into real estate has gone up or
come down? In this scenario one can make educated guesses from the data that is
available and anecdotal evidence that keeps coming in.

17 | (In)Complete Guide to Real Estate

 An interesting experiment was carried out by a friend of mine recently. He called
up several real estate brokers from two different numbers. On the first call he
pretended to be a buyer and was told "Sir, daam abhi bhi badh raha hai (the price is
still going up)." On the second call he pretended to be a seller and was told "Sir, there
are no buyers in the market." What conclusion can we draw from this? I leave that
up to you.

As far as black money is concerned, the situation in National Capital Region,

makes for an interesting reading. As analysts Saurabh Mukherjea and Sumit Shekhar
of Ambit write in a recent research report titled Real Estate: The unwind and its
side effects: "In Delhi, the ratio of unaccounted value of real estate transactions to
the total value is as high as 78%. The same ratio is 50% in Kolkata and Bangalore.
In smaller towns and semi urban centres, nearly 100% of property transactions are
conducted in cash."

Hence, among the bigger cities, the maximum amount of black money goes
into real estate in Delhi and the National Capital Region. And this I feel has been
coming down. The real estate rating and research agency Liases Foras estimates
that the National Capital Region had an unsold home inventory of 71 months (the
real situation might be worse) as on March 31, 2015. This means that if sales continue
at the current pace it would need another 71 months to sell the existing number of
unsold homes. An inventory of eight to 12 months is considered healthy.

What this huge inventory clearly tells us is that the amount of black money coming
into real estate has come down in the National Capital Region and this is good news
for genuine buyers who want homes to live in.

Over and above this, the real estate prices have run up way beyond what most
Indians can afford. And once you take this into account, prices are bound to fall.
This becomes very clear from the point that rental yields are now as low as 2% (again
a data point provided by real estate consultants and given that the situation might be worse). Rental
yield is essentially annual rent that can be earned from a home divided by its market
price. No market can keep working beyond a point without catering to what the
customers really want.

All these reasons, lead me to believe that real estate prices will continue to fall

(In)Complete Guide to Real Estate | 18

in the days to come. Though please don't ask me when will they crash? Because I
really don't know.

This is one of those funny situations where one will be partially wrong till one is
proven right. All I can say to conclude is: stay tuned!

19 | (In)Complete Guide to Real Estate

 CHAPTER 5

The "confirmation bias"

of a real estate investor

As I have pointed out in the past, every time I write a column on real estate,
people write to me with reasons as to why real estate prices in India, can never fall.
The reasons usually offered are population growth, not enough land, inflation and
black money. I have debunked these theories at various points of time, so I won't get
into these reasons all over again.

But I would like to point out that real estate prices in India did crash between
the mid 1990s and early 2000s. As an August 1997 newsreport in the India Today
magazine points out: "Be it Mumbai's 'golden mile', Nariman Point - the most
expensive stretch of real estate in the world - or Somajiguda in Hyderabad; Delhi's
commercial hub Connaught Place or Koregaon Park in Pune; Bangalore's pulsing
heart M.G. Road or the sedate T. Nagar in Chennai. Each of these upmarket
addresses, the most sought-after in their respective cities, are now dotted with
unoccupied apartment blocks, unwanted commercial complexes and office space
purchased at rates too hot to handle today."

And this led to a huge real estate crash. "For the country's over Rs 1,00,000 crore
real estate business one-twelfth the size of the GDP - it has been a crash without
precedent. Between mid-1995, when the real estate boom peaked, and mid-1997,
prices have fallen a bruising 40 per cent," the India Today report further pointed
out.

The irony is that all the reasons that are offered now in favour of real estate prices
not crashing, were as valid then, as they are now. But real estate prices did fall. So,
real estate prices do fall, it's just most people don't remember about it, given that
they haven't fallen for a while now.

(In)Complete Guide to Real Estate | 20

 One of the newer reasons that has been offered in the recent past is that the
government won't allow the price of real estate to fall. This is because politicians
have their ill-gotten wealth invested in real estate. Another corollary to this was
offered to me by a friend yesterday who citing a discussion he had on a WhatsApp
group said that the government will not allow the price of real estate to fall by more
than 20%. If the government allows the real estate prices to fall more than 20%, the
banks will end up with a huge amount of bad loans.

The problem with this argument is the assumption that the government can
control these things. If it could, the banks would not be sitting on the massive
amount of bad loans that they already are.

Let's take the case of the Chinese stock market. On July 27, 2015, the Shanghai
Composite Index fell by 8.5% during the course of a single day. It would have fallen
more. But that did not happen given that the rules in China prevent share prices
from moving freely once they have risen or fallen by 10% during the course of a
single day.

This despite the Chinese government doing everything within its power to ensure
that the stock market did not fall. It banned short selling. It banned initial public
offerings, so that people buy shares already listed in the market. It banned investors
with more than 5% of shares in any company, from selling those shares over the
next six months.

Over and above this, the government got stock brokerages to buy shares. As Wei
Yao of Societe Generale points out in a recent research note: " The Ministry of
Finance, one of the big shareholders of listed financial institutions, promised not
to sell its holding and several central government SOEs[state owned enterprises]...
started to buy back shares." Despite all these measures the Chinese market fell by
8.5% in a single day, its biggest fall since 2007.

The Chinese government has way more control over the Chinese economy than
the Indian government will ever have over the Indian economy. And if the Chinese
government hasn't been able to prevent the stock market from falling, what are the
chances that the Indian government will be able to prevent the real estate market
from falling?

21 | (In)Complete Guide to Real Estate

 The Shanghai Composite Index has fallen by close to 27% between June 12 and
July 29, 2015. This, despite the government taking multiple measures to arrest the
fall. The moral of the story is that the governments cannot prevent big market falls.

Another point that I want to make here is regarding the people who are going
around saying that real estate prices will not fall and that real estate prices never
fall. These are essentially individuals who make money through real estate. Either
they own multiple homes and are sitting in the hope of prices continuing to go up
or they work for the real estate industry.

Such individuals suffer from a confirmation bias. As John Allen Paulos writes in
A Mathematician Plays the Stock Market: ""Confirmation bias" refers to the way
we check a hypothesis by observing instances that confirm it and ignoring those
that don't. We notice more readily and even diligently search for whatever might
confirm our beliefs, and we don't notice as readily and certainly don't look hard for
what disconfirms them."

Given that their incomes depend on real estate prices continuing to go up they
refuse to look at even the most basic evidence. Real estate prices have gone way
beyond from what most people can afford. At prices homes are currently selling
at, even the Ritchie-Rich are having a difficult time buying. As a research report
brought out by real estate consultant Knight-Frank points out: "On the other hand,
for end users, high property prices and low income growth continue to be the top
concerns."

And this explains why real estate builders have been unable to sell homes. The
Knight Frank report talks about the sad state of affairs in the Mumbai Metropolitan
Region (MMR): "The MMR residential market contracted further in H1 2015 (January
to June 2015). In comparison to the preceding half yearly period of H2 2014 (July to
December 2014), absorption and new launches shrunk by 22% and 30%, respectively.
Housing sales of 28,446 units and new launches of 18,887 units made H1 2015 the
worst half-yearly period in the post global financial crisis era."

So here is a real estate consultant telling us that the overall Mumbai real estate
scene is in a mess. It's never been so bad since 2008. And Mumbai is not even the
worst performing real estate market in the country. That title goes to Delhi.

(In)Complete Guide to Real Estate | 22

 Despite all this, those whose incomes depend on real estate continuing to do well,
are still telling us that prices won't come down. I really don't know what they are
smoking but as the American journalist Upton Sinclair once said: "It is difficult to get
a man to understand something, when his salary depends on his not understanding
it."

A few years back I had a similar experience when those associated with the
insurance industry kept telling us that unit linked insurance plans (Ulips) are the
best mode of investing. We all knew what happened to those who invested in Ulips.

23 | (In)Complete Guide to Real Estate

 Vivek Kaul's Advertisement

‘Easy Money’
Get This Trilogy Worth Rs 1,215 For FREE!
Vivek Kaul, Editor of the Daily Reckoning,,
y,
is a master storyteller. And in this trilogy,
he tells us probably one of the most
important stories that has yet been told... ..
the story of Money.

A highly recommended read that teaches s

e
you lessons that could help you avoid the
next global meltdown. Don't Miss It!

Claim your Free set worth Rs 1,215

now...

Hurry! We only have limited copies of Vivek Kaul’s 'Easy Money' Trilogy
books to give away.

(In)Complete Guide to Real Estate | 24