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Investing in India - Honest Truth by Ajit Dayal
Are real estate prices supported by your branch manager? A  A  A
PRINTER FRIENDLY | ARCHIVES
8 OCTOBER 2009


We live in a strange world.

Millions in India would like to buy homes to live in.
Or offices for setting up a new venture.
Or shops for starting a business.

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But buying real estate - or renting it - is still way beyond our means.

So we save our money in safe places waiting for that wonderful day when we can buy that home we need.
Or the office for the new venture we wish to start.
Or the shop for the new business we wish to start.

One of the places where we park our money is in bank deposits.

Much of it is parked in the PSU banks - the public sector banks that are owned by the government of India.

According to data from the Reserve Bank of India (RBI), PSU banks account for 74% of the total bank deposits in the country.

Well, what does the PSU bank do with all our money?

They do what all banks are supposed to do: lend it on to someone else at a higher price (the lending rate).
The difference between the lending rate and the borrowing cost (what the banks pays you for your deposits or what it may pay other banks and companies to borrow money) is a margin that needs to cover all the salaries and costs of maintaining a branch.

No harm in that.
None at all: that is the business of all banks whether PSU or private banks.
If there was no profit in the banks, we would not have any banks.
That would be a problem.
So banks which lend money to others and earn a good return on it are a good thing to have around.

Immerse yourself in 2008
But there is something interesting in the RBI data on what banks have done with your deposit money.
But, before we head there - we need to remind ourselves where the world was in December 2008.

Lehman Brothers had gone bust in September 2008.
Merrill Lynch had to be rescued by Bank of America in a shotgun marriage arranged by the US government.
AIG had to be bailed out.
While most Indian banks were healthy, there were concerns that a few banks (which had relied on excessive foreign lines of credit for their excessive growth) may not have money to repay their foreign loans and needs to be "rescued" by the RBI.

Indian companies, in general, had borrowed about USD 20 billion from foreign banks and investors.
This USD 20 billion included what Tata Motors had borrowed for its acquisition of Jaguar, or the working capital borrowing by an Indian company using "cheaper" foreign money to invest in its Indian businesses.
By October 2008, the foreign banks were told to send all their money back to "home country". Their parent banks were in trouble and they needed all the money back in safe US government or UK or Euro government bonds.
Foreign banks were not only refusing to lend any new money to any Indian company, but they wanted all the loans that were falling due returned. They refused to "revolve" or extend the loans.

Too add doom to the gloom, many mutual funds were holding debt issued by Indian real estate companies and these companies were not able to repay this debt.
The Indian companies had parked their surplus cash with these mutual funds. They now wanted it back (to repay their foreign bank loans or for use in their own operations), and the mutual funds could not repay it.
Ouch!

The Indian stock markets were collapsing.
And the general consensus (uh, not from me) was that the Indian stock market could head as low as 4,000 to 6,000 levels from the 8,000 levels of the BSE 30 Index.

And the final knock-out punch: the sale of shares by foreign investors (uh, speculators will be more accurate) to the extent of Rs 70,000 crore and the act of converting this into US Dollars led to a decline of about -30% in the Indian rupee in the year 2008.

Even the sweet and normally confident anchors on TV channels looked like Rakhi Sawant - one day after being with a child.
The financial newspapers stopped publishing photographs of attractive models to add colour to their India fantasy stories.

That, then, was the India we were in.
December 2008.
Please roll back your mind to that period.

And add the spice: there was an election coming up.
Which many believed (eh, not me) could take India into the bullock cart age.

Rescue me!
Let's take a quick peek at what was happening to real estate developers.

People had stopped buying real estate.
Salaries were being held back - the days of the guaranteed 25% annual increase were over.
Jobs were at risk.
Offices were empty.
Businesses were closing down.

Real estate developers were about to go bust.
They were desperate for cash.
There was no money inflow from the sale of real estate.
But there were debts to be repaid.
And the real estate developers also had payment obligations for all the land that they had agreed to buy as they went about building their "land banks".

In this environment, what were the PSU banks doing?
They were pretty busy lending money for real estate.

Table 1: Your friendly neighbourhood bank is here J
in Rs Millions May 29,2009 May 23,2008 May 29,2007
       
Loans given (excludes agriculture loans) 25,582,500 21,747,670 17,515,780
       
Real estate loans by all banks 944,990 621,780 451,600
       
Real estate loans to total loans given by banks 3.7% 2.9% 2.6%
       
Growth in real estate loans 52% 38%  
       
Growth in total loans (excludes agriculture loans) 18% 24%  
Source: RBI data

Between May 23, 2008 and May 29, 2009 the loans given by banks (excluding the loans it makes for agriculture) grew by +18% - from Rs 21,747,670 million to Rs 25,582,500 million.

But the loans given to real estate grew by +52% - from Rs 621,780 million to Rs 944,990 million.

This period is for May 2008 to May 2009 - in a few weeks we will get data for the period October 2009 over October 2008.
That data will probably be more telling.
Global credit markets froze after Lehman's collapse and the "growth" in loans may be more than what this "older" data shows.

But even this "old" data shows the huge rescue of the real estate developers.

It should be noted that "loans to real estate" does not include the loans made to individuals who borrow money to purchase their homes. Those mortgage loans grew by 5% confirming the data from the real estate industry that home-buying has slowed down considerably.

According to industry estimates (and a research report by a foreign stock-broking house), the growth in the number of new homes sold in 5 cities (Bangalore, Bombay, Chennai, Gurgaon, Hyderabad) has declined.

Between April, May, and June of 2008 there were 15,000 units sold in these 5 cities. This works out to an average of 33 units per day per city.

From then on it went into a tailspin and reached the low level of 5,000 units for the period January, February, and March of 2009.
This works out to an average of 11 units per day per city.

It has since picked up - mostly in Bombay - to an estimated 9,000 units for the 3-month period July, August, and September 2009.
This works out to an average of 20 units per day per city.

The point is: there was a small growth in homes purchased - so there was no significant growth in loans given to individuals for purchasing real estate.

But there was a huge (+52%) increase in loans shown to real estate developers - loans given to keep the real estate companies afloat.

Given that foreign banks were asked to send money back home and not to lend in India, much of this increase in "loans to real estate" was probably made by the Indian banks.

And given that ICICI Bank (the largest) and many other Indian private sector banks were being careful and re-assessing the risks they had taken in many previous loans, the chunk of the "loans to real estate" must be from the PSU banks.

Your bank deposit, helps keep real estate prices up!
So, there it is:
You wish to buy real estate but are waiting for it to decline to a price that you can afford to pay.
Stock prices jump around too much so, correctly, you don't wish to put your idle money in stock markets because you may need the money at anytime to buy real estate.
Your bank deposit is with the PSU bank.

The banks have used your money to give it as a loan to real estate developers.
Their act of giving the loan to real estate developers gives them badly needed cash.
The real estate developers no longer need to sell their real estate to get "cash flow" to stay alive.
They got the money from the banks.
Now, the real estate developers can charge you a higher price for real estate.
They can sell it on their terms.
Their terms, of course, are to make a 100% to 300% profit from you.

So, if the calculations in Table 1 above are correct, then the loans to real estate developers were about Rs 323,210 million or Rs 32,321 crore.

Table 2: The British taxed our salt; the powerful "tax" our real estate
  May 29,2009
   
Growth in real estate loans, in past one year (Rs million) 323,210
   
Avg cost of construction (Rs/sq ft) 2,000
   
Square feet financed (millions) 161.61
   
Avg property size, sq ft 1,000
   
No of homes denied, directly 161,605

These Rs 32,321 crore was - from a cash flow perspective - the equivalent of selling 161,605 homes of 1,000 sq ft each.

So, some 161,605 homes that would otherwise have to be sold by the real estate developers to generate cash flow for the developers (to match the loans they got from the banks) have not come to the market to be sold.

Instead, an estimated 34,000 homes were sold for the 12 months ending May 2009.
And property prices had fallen by -20% to -30%.

What would happen to real estate prices if banks had NOT given these loans (from your deposit money) and if 161,605 homes had to be sold in the 12 months ending May 2009?

The 161,605 homes that did not come to the market are 4.8 times the homes that were sold in the 5 cities in that same time period.

You saw what happened when foreign investors sold Rs 70,000 crore of stocks?
The BSE-30 Index collapsed from 20,500 to a level of 8,000.
A decline of -69%.
But real estate developers have a friendly banker.
That is why property prices have fallen "only" by -20% and are now heading up again!

So, why this sudden friendship?

Well, we had a national election coming up.
Politicians possibly need money to fight elections.
Though this may be a coincidence.

And then many politicians - across political parties - possibly have someone they know from their family in the real estate business.
And they needed to rescue them.

The foreign banks stepped out, the Indian banks stepped in.

The governments control the PSU banks.
A suggestion, a nudge, a wink, or a phone call is all it takes.

And a little bit of your money.
Just a little bit.

Rs 323,310 million of extra money that went to the real estate developers is only 1% of the total bank deposits in the country.
What's a little 1% between friends?

But it is sufficient to ensure that real estate prices may not fall to levels that are affordable for you.
For the aam aadmi that every Finance Minister and every government and every politician is so worried about.

Mahatma Gandhi walked to the sea and made his own salt.
The politicians were all there to pay homage to the great soul on October 2nd.
Dressed in their white khadi and solemn faces.

Like the Mahatma, you can protest, too.

Walk up to your neighbourhood bank branch manager and ask him, "How much of my bank deposit in your bank is going to fund real estate developers who then keep prices so high that I cannot afford to buy real estate?"

Maybe you wish to give your deposit to a bank that only gives real estate loans to individuals who buy homes or offices or shops?
You can deal with banks that refuse to give money to real estate developers.
This small act will force the real estate developers to sell those 161,605 homes that they would need to sell to pay back the loans from your bank deposits.

And then you can buy your real estate at a more "real" price.

Finance remains a very corrupt business, in my humble opinion.
As does real estate.

So, where does that leave the financing of real estate in the ranking tables of corrupt businesses?

I wonder, I really do.....

Which of these according to you is the most corrupt business? Click here to vote

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Note: The Honest Truth is authored by Ajit Dayal. Ajit is a Director at Quantum Advisors Pvt Ltd and Quantum Asset Management Company Pvt Ltd.. Views expressed in this article are entirely those of the author and may not be regarded as views of the Quantum Mutual Fund or Quantum Asset Management Company Private Limited. To write to Ajit, please click here.


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55 Responses to "Are real estate prices supported by your branch manager?"
Mehra
Jul 1, 2013
Agreed to what you have mentioned, how long will it take the prices come down, instead the developers are luring the customers with 20:80 scheme or providing extra amenities etc. Please enlighten about the same with your predictions
Regards
Like 
dr vishnu patel
Feb 4, 2010
yes
Like 
Anand
Nov 2, 2009
An excellent article. Now we know the truth. I am just thinking when will this get corrected. Can we think of any institution which would force government to break this nexus? If not how could we help to create such an institution in this country? Like 
jayant
Oct 28, 2009
The modern looters have got the free hand under the aegis of the Central Banks to rip off the Home Buyers who have bet their life savings to realize the dream of Home Ownership.

The home buyers are not only at the mercy of Builders but also the Banks.

October 28th, 2009

The problems that home loan borrowers have with the banks seems to be something that the Reserve Bank of India does not want to get involved in.

When the problems faced by home loan borrowers were brought up during a meeting with the RBI governor recently, one of the RBI officials suggested that these problems can be taken to the banking ombudsman.

However, what the official did not know is that the ombudsman is not borrower-friendly. It would be nice if the RBI could do a sting operation at the ombudsman’s office to know how difficult it is for anyone to get justice.

Omnibus killing clause

So, banks go on merrily bullying the home loan borrowers. There is this blanket omnibus clause that all borrowers get trapped in when signing an agreement with the bank.

It says “all terms and conditions are applicable to the borrower will be applicable to you.” This means that overnight your interest rate can go up.


For instance, the penalty rate charged by HDFC, the country’s largest and iconic home loan lender, changed the penalty rate from two per cent to three per cent overnight for those wanting to advance the repayment of their loans. Most banks do this and it defies all logic.

This was brought to the attention of the RBI and the RBI agreed that banks should not charge a penalty if a borrower wants to prepay his loan. On the contrary, the banks should be happy as they can lend this money to someone else.

But the RBI is fighting shy of making this a rule.
Maybe the Indian Banks Association should take up this matter. The RBI for instance, has made all banks to accept the ATM cards of other banks. This is a more difficult proposition than asking banks to desist from charging penalty on those who want to advance repayment of their loans.

A borrower cannot be blamed for believing that the banks are borrower friendly.

Look at their advertisements. The HDFC’s massive television and print campaigns convince you that they are the most helpful home loan people around. But one of our readers found to his chagrin that though he had taken home loans twice and always repaid his loans, his application was rejected recently on flimsy grounds that they were not satisfied with the source of the 15 per cent down payment which he had offered to pay by cash or breaking some FDs.

Sensex troubles

The Sensex has once again started to give sleepless nights to punters and retail investors alike. Globally, there is suddenly an uncertainty over whether the US economy can sustain a signs of the revival. There is also a view that since the markets has gone up nearly 70 per cent from their lows they are bound to go in for a correction. Moreover, the feeling of comfort could make the government globally to think of withdrawing the stimulus packages. The RBI governor has already withdrawn some of the stimulus measures that it had introduced last September. And the other emerging markets are likely to do the same.

Like 
Prashant Shah
Oct 27, 2009
Excellent article.

In Mumbai, the prices have not come down at all and at present the prices are quoted at 20% more that what they were when the Sensex was as all time high.

A two bedroom match box flat is not available under 60 lacs. And one has to pay maintenance charges of about 4000 Rs. per month !

If we get wise and stop buying properties at higher prices, the builders will have to become sensible.
Like 
Pandurang
Oct 26, 2009
Election time so Politician to Builder "You Pay Me Now for My Election expenses" and after the election " I will pay you back hundred-fold by increasing FSI,diluting CRZ norms , throwing open the land-bank for you to purchase at a throw away price, relaxing TDR regulations and whatever more you want us to help you make tons of cash in rear estate" ! This equation has been going on since 1947 and will continue forever ! America had its Al Capone & we have our D-company in India's (Un)Real Estate business. The nexus between the Italian origin real estate gangsters and the US congressmen still continues , though not at a scale as in India ! "Yoy-pay-Me-Now & I-will-pay-you-after-election" is the motto of our "Satyameva Jayate" democracy (or is it mobocracy ?)!
Thanks anyways for educating the hard working middle-class slave army of India that is Bharat ! Mera Bharat Mahan !
Like 
jayant
Oct 24, 2009
Bankers knew about the Real Estate Bubble and contributed towards destroying the life savings of home buyers...


url www indianexpress com news developers-are-only-interested-in-the-luxury-end.-weve-just-forgotten-affordable-housing 271644 0

Developers are only interested in the luxury end. We’ve just forgotten affordable housing’
Posted: Monday , Feb 11, 2008 at 0218 hrs

Walk The Talk - Interview with Deepak Parekh

Excerpt of the interview

• You are agreeing to the restrictions being placed on your own growth, your own business.

Yes. Because you know the point is that every builder was buying land with bank money and land prices were going up, up, and up. Unfortunately, what has happened is that they are still going up because the Indian lenders have been substituted with foreign lenders. The huge increase in FDI that we’ve seen this year . . . this year we expect the FDI to touch $25 billion to $5-7 billion, and a fair amount of that is in real estate. So the builders have now resorted to borrowing abroad or taking equity or preference capital from overseas. And with that money they buy land.


• So when do you see the party stopping? I’m using the language of business channels.


I hope the party stops. We need affordable housing, mass housing.


• So are you saying the prices will come down or they should and will come down?


They should come down. I’ve been saying for the last 18 months that prices will come down. I’ve been proved totally wrong.
In fact, my board tells me that you should say that prices will go up and then they will come down. (Laughs)

So I’ve been proved totally wrong because the prices have not come done. If you take Bombay, for instance, the huge amount of development that is taking place in the next five years, I don’t see any reason for commercial prices to have to crash. Bombay commercial prices, like Connaught Place, Delhi, are among the costliest in the world.

• And now the development is quite fast.


Development is fast. If you see the amount of construction in Parel area, it is 80 lakh sq ft — 80 lakh sq ft from large mills — small mills I’m not including. Now this is all commercial space. So 80 lakh sq ft of commercial space will be ready for occupation in the next two years. Who is going to take that much space? Bandra-Kurla, MMRDA is auctioning land there, again six to eight developers. A crore and a half square feet has been auctioned already for commercial use. So if you add that, add Dharavi, add Parel, in the commercial space, there will be so much surplus.



• I read one of your recent speeches, where you talked about the need for a regulator in housing.


I think there is a need for a regulator. There is regulator in every other business.


• But do other people in your business agree with this?


I think builders are opposing it. But I think it’s a boon for consumers. We’ve to protect the consumers. Today there are so many builders, who delay construction not by months but by years. And when the poor consumer goes to say he wants the house, they tell him to take his money and go away, because in the meantime prices have doubled.


• Oh, I see.


So there’s no way. They (consumers) are at the mercy of the developers. So you have to have some penalty, some control, some oversight.

Like 
shamji s bhuva
Oct 20, 2009
Mr.Dayal, I am grateful Good Article for stock Like 
ajitkumar
Oct 17, 2009
Common people always want to keep his hard earned money to be safe in a public sector Bank even though he knows that he gets no gain comparing with the eroding value of the Indian money.But he has no option because he think that his principle will be safe if he is unable to deploy the money. Your article is excellent and informative to everyone. Many equity market related sites predict stock market for speculative needs but equity master is different. I appreciate your article which lights knowledge on our economic side which is a backbone and expects more as I am a bank employee. Thank Like 
Nayan Turakhi
Oct 17, 2009
Good Article Like 
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