Trip down memory lane
- India shouldn't be surprised at the prospect of a dramatic fall in real estate prices.
- In 1997, real estate prices in Mumbai fell by 50%; prices nosedived across India-in Delhi, Bangalore, and Chennai.
- A comparison showed that between 1995-1997, real estate prices had fallen by 40%.
- At that time, Mumbai had a lot of black money; the current situation is rather familiar and ominous.
Putting the pieces together
- According to RBI, in the period ending March 2014, bank lending to commercial real estate had grown by 22.4% as compared to the overall increase of 14%.
- Despite the abundance of unsold real estate, lending to real estate companies grew at a faster pace than overall lending.
- It was suggested that politicians who were behind real estate companies were forcing banks to keep lending.
What is rental yield?
Rental yield is the annual return on lending out a house. The index is achieved by expressing the rent of the house as a percentage of its market price.
The Greece in real estate
- Question is, why this distorted lending to real estate?
- Even if politicians were forcing public sector banks to lend excessively, what were these companies doing with the money?
- The truth was that this continued lending allowed the companies to pay off old debt; new debt to pay old debt.
- Without this lending, they would have been forced to sell their inventory with slashed prices.
Is the bubble about to burst?
- Bank lending to commercial real estate had increased in the year ending March 2015 only by 8.9%.
- For the same period, overall bank lending was 8.6%.
- It seemed that the trend of excessively high lending to commercial real estate companies was coming to an end.
- The BJP-led NDA government taking charge could be the cause of this change.
The economics of demand and supply
- According to reports, home sales fell heavily in 2014 by 17%.
- The number of unsold units that these real estate companies have been holding increased at the same time.
- Sooner or later, they would have to start selling their inventory. And with the abundance of offerings soon to come into the market, prices cannot help but fall, and dramatically.
- It's simply the demand-supply law.
Crash predicted in real estate prices
24 Jul 2015
- Experts have warned about a 50% crash in future real estate prices in India.
- The difference between the rental yield (2%) and the borrowing rate for real estate (10%) is 8%.
- This is one of highest in the world economy.
- The likelihood of rents rising is low; therefore, real estate prices need to fall significantly for the rental yield to rise.