Friday, October 3, 2008

Are housing prices set to correct ?

  1. Stock price performance

Since, the beginning of the corrective phase in Indian equity markets, real estate stocks till date over the last 9 months have corrected 70-80%. In contrast, property prices (in terms of transactions reported) have more or less been constant or corrected some 10-20% in non prime tier 2/3 cities where there is stark over-supply situation.

A lot of research into the lead indicators of the economy / sectors have given findings that equity markets / prices are lead indicators of the economy. The time taken is a function of efficiency of individual markets. My own observation has been that Indian markets are fairly efficient and do factor in the immediate 9-12 months expectations.

  1. Rental yields

Rental yields in high growth areas in India has traditionally hovered around 3-4% and 2-2.5% at the lower end of the range (periods of exuberance) and around 4.5 -5% (periods of extreme pessimism). If we consider the end of year 2007 as a period of exuberance as also rental yields in quite a few reported transactions then have been at 1.5-2% levels, then a correction of at-least 25-33% looks possible under normal circumstances. How long will this take? nobody knows. 

  1. Affordability

Commentators keep coming up with the logic that the India story is intact, there is huge demand and with any fall in prices…demand will pick up. Let me tell you that human being as investors behave the opposite! So investment demand will fall with falling prices, it might just wither away. 

As for people who are consumers, the demand exists and will continue to exist. But, it will be price sensitive (meaning affordability holds the key)… if we take a typical urban  middle class nuclear family whose average income will vary from anywhere between 3.5-7 lakhs p.a. at a time of rising interest rates will not be more than 4-5 times annual earnings. Neither will banks lend more than this. 

So by definition, house prices in urban areas need be around 14-15lakhs (for small sized properties) and around 30-35lakhs (for mid sized properties). If we consider these prices for 2 cities of Mumbai and Delhi (of which I am aware)…one (rather any one looking for a property in a not so prime residential area) will find that the prices being quoted by builders and brokers are around 20-33% higher than affordability. 

Typical real estate cycles have been around 6-7 years cycles and these have usually been longer than the broad economic cycles. (Financial markets act immediately, real estate markets take time to equilibrate). By this logic, we are around 3.5-4 years into the cycle which started in mid / late 2004. 

I donot know which indicator / argument is more / less predictive, but since all point to a single direction I reckon most people will wait to watch before transacting. 

1 comment:

Shruti Gupta said...

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