Real Estate A Wealth Destroyer
Do you agree with me.
REAL ESTATE WOULD PROVE TO BE A GREAT WEALTH DESTROYER/ EQUALISER.
If one is watching the real estate prices over the last 20-25 years, by any stretch of imagination what one is experiencing in the last 5-6 years have been unexplainable in normal asset pricing theory. These mean an asset which deviates hugely from the normal trajectory in a very short period of time, would mean that it is likely to head into a bubble zone or already is in one.
Normally, out of the three basic uses of real estate a) agriculture b) residential c) commercial, agriculture would more or less remain in a fair trajectory mode. The two major areas where speculation sets in are residential and commercial. If one has understood basic economics the same theory of demand and supply works. But it is speculation that creeps in somewhere which pushes the pricing into the bubble zone. It seems that this is in play now.
When there is more of cash available it will flow towards those assets which catch fancy by the size of activity being observed. THE REAL REASON FOR THE HUGE MOVEMENT IN REAL ESTATES ARE PURELY DUE TO THE FACT THAT THERE IS A LARGE COMPONENT OF BLACK MONEY IN THE TRANSACTION. IN REAL ESTATE THE FLOW OF BLACK MONEY IN A BIG WAY HAS ALWAYS BEEN THERE. This is very evident now because the ratios in which the deals are closing are mind boggling. If a land purchase is there the ratio would be 40:60 or 50:50 where 60 could be the black. And in the purchase of a constructed property the ratio is slightly different with 60:40 to may be 70:30 where 40 or 30 would be the black amount. So what does one understands from this? It only means that, this area has become a safe heaven for money laundering or protecting the value of the tainted money that is created in the economy.
It is a worry because the common person is also sucked into this vortex, either as an investor (can be read as speculator) or an end user. What he is doing is in such deals is converting his hard earned money into black by paying money in cash to the party. The fact is that at a later part this money simply doesn’t get accounted for in future deals in real value terms. This would be more of a headache when the legislation is put in place to make the real estate deals more and more transparent. The real estate bill is still in the back burners for reasons very obvious.
Coming back to valuations which seems to be stretched is evident from the fact that,
a) The ratio of the purchase is more than the average annual earning of the normal person this is for residential properties. Or in other words the end user. Ideally if this is below 5 would be great but today it is way above.
b) For the speculator this will be an eye opener because if the capital that is being put into the asset today fetches a rent of only 20-25 bps monthly that converts to about 3% annually. With the capital appreciation angle being uncertain. To add to this woes god save this person if he has taken a loan on it.
c) People are buying as a second home are in for a rude shock because the kind of money that goes into acquiring such properties are far more than the utility value. Lets take a case for this if one has to buy a second home one would sink in in today's terms anything around 50 Lakhs. If I have this money in a Fixed deposit it would fetch me about 4 lakhs by way of interest @ 8% PA. If we assume one has to take a hotel room costing Rs.10000/- per day this translates into 40 days stay in a hotel of your choice at a different location what ever would please you. With the 50 lakhs in bank its is a big plus as it allows me financial freedom. And at the end of the day I am in a position to enjoy different locations. Plus I am not spend on the up keeping of the property. There are more benefits of not owning a property and using a facility to enjoy my leisure at a hotel.
So where is the attractiveness in the whole deal is the big question. Coming to the fact as to how this would bring in the situation of discussion. The most likely thing that I expect that would take place in this sector would be a correction say 15-20% may be more. But the fact is any larger correction may not be seen because of the mindset of not booking a loss and waiting for the prices to recover this itself will erode the value. Hence, what one can expect is a price which will move sideways for a few years this seems more likely. If this has to take place we would see any thing upwards of 5 years where the prices would not move very significantly. Resulting into the trajectory coming back to the mean. Low returns or no returns for a few years itself will bring in huge equalizing factor, for those who missed the opportunity of owning a property.
The destroyer will be seen by those who got in at the peak and will not see a significant upside and at the same time servicing a loan for the acquisition will add to the problem.
This situations have taken place in the country and as well as in countries like the US, Japan Thailand where the property prices suddenly collapsed. A situation like a sub-prime may occur leading to huge erosion in prices. We have also witnessed years where the property prices have not moved significantly where the capital gain would be close to say 5-6%. but if one has to add rental with say 3-6% the total return would be 8-12% which looks attractive historically this is the ideal return on the real estate area a slight out performances would depend on which swing one is experiencing or got into.
REAL ESTATE WOULD PROVE TO BE A GREAT WEALTH DESTROYER/ EQUALISER.
If one is watching the real estate prices over the last 20-25 years, by any stretch of imagination what one is experiencing in the last 5-6 years have been unexplainable in normal asset pricing theory. These mean an asset which deviates hugely from the normal trajectory in a very short period of time, would mean that it is likely to head into a bubble zone or already is in one.
Normally, out of the three basic uses of real estate a) agriculture b) residential c) commercial, agriculture would more or less remain in a fair trajectory mode. The two major areas where speculation sets in are residential and commercial. If one has understood basic economics the same theory of demand and supply works. But it is speculation that creeps in somewhere which pushes the pricing into the bubble zone. It seems that this is in play now.
When there is more of cash available it will flow towards those assets which catch fancy by the size of activity being observed. THE REAL REASON FOR THE HUGE MOVEMENT IN REAL ESTATES ARE PURELY DUE TO THE FACT THAT THERE IS A LARGE COMPONENT OF BLACK MONEY IN THE TRANSACTION. IN REAL ESTATE THE FLOW OF BLACK MONEY IN A BIG WAY HAS ALWAYS BEEN THERE. This is very evident now because the ratios in which the deals are closing are mind boggling. If a land purchase is there the ratio would be 40:60 or 50:50 where 60 could be the black. And in the purchase of a constructed property the ratio is slightly different with 60:40 to may be 70:30 where 40 or 30 would be the black amount. So what does one understands from this? It only means that, this area has become a safe heaven for money laundering or protecting the value of the tainted money that is created in the economy.
It is a worry because the common person is also sucked into this vortex, either as an investor (can be read as speculator) or an end user. What he is doing is in such deals is converting his hard earned money into black by paying money in cash to the party. The fact is that at a later part this money simply doesn’t get accounted for in future deals in real value terms. This would be more of a headache when the legislation is put in place to make the real estate deals more and more transparent. The real estate bill is still in the back burners for reasons very obvious.
Coming back to valuations which seems to be stretched is evident from the fact that,
a) The ratio of the purchase is more than the average annual earning of the normal person this is for residential properties. Or in other words the end user. Ideally if this is below 5 would be great but today it is way above.
b) For the speculator this will be an eye opener because if the capital that is being put into the asset today fetches a rent of only 20-25 bps monthly that converts to about 3% annually. With the capital appreciation angle being uncertain. To add to this woes god save this person if he has taken a loan on it.
c) People are buying as a second home are in for a rude shock because the kind of money that goes into acquiring such properties are far more than the utility value. Lets take a case for this if one has to buy a second home one would sink in in today's terms anything around 50 Lakhs. If I have this money in a Fixed deposit it would fetch me about 4 lakhs by way of interest @ 8% PA. If we assume one has to take a hotel room costing Rs.10000/- per day this translates into 40 days stay in a hotel of your choice at a different location what ever would please you. With the 50 lakhs in bank its is a big plus as it allows me financial freedom. And at the end of the day I am in a position to enjoy different locations. Plus I am not spend on the up keeping of the property. There are more benefits of not owning a property and using a facility to enjoy my leisure at a hotel.
So where is the attractiveness in the whole deal is the big question. Coming to the fact as to how this would bring in the situation of discussion. The most likely thing that I expect that would take place in this sector would be a correction say 15-20% may be more. But the fact is any larger correction may not be seen because of the mindset of not booking a loss and waiting for the prices to recover this itself will erode the value. Hence, what one can expect is a price which will move sideways for a few years this seems more likely. If this has to take place we would see any thing upwards of 5 years where the prices would not move very significantly. Resulting into the trajectory coming back to the mean. Low returns or no returns for a few years itself will bring in huge equalizing factor, for those who missed the opportunity of owning a property.
The destroyer will be seen by those who got in at the peak and will not see a significant upside and at the same time servicing a loan for the acquisition will add to the problem.
This situations have taken place in the country and as well as in countries like the US, Japan Thailand where the property prices suddenly collapsed. A situation like a sub-prime may occur leading to huge erosion in prices. We have also witnessed years where the property prices have not moved significantly where the capital gain would be close to say 5-6%. but if one has to add rental with say 3-6% the total return would be 8-12% which looks attractive historically this is the ideal return on the real estate area a slight out performances would depend on which swing one is experiencing or got into.
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