4 to 5 decades to recover this investment! - The 5 Minute WrapUp by Equitymaster
Investing in India - 5 Minute WrapUp by Equitymaster

4 to 5 decades to recover this investment! 

A  A  A
In this issue:
» Will the government bite the bullet with deregulation in diesel prices?
» Larry Summers: India and China could destroy the world
» Goldman Sachs: Outlook for commodities is poor
» Are mid and smallcaps attractive now?
» ....and more

Buying a house is one of the biggest goals for most individuals. Especially for the young professionals who start dreaming of buying their own home, for which they start saving up at an early age.

On the other hand, there are property investors who speculate in real estate. They buy houses and then sell them later in hopes of price appreciation. And given the way property prices in India have appreciated in India, it seems to have attracted a large numbers of such types of buyers. Despite property prices having come down from their peaks, such individuals continue to hold on to properties in hopes of their prices appreciating. This has led to property prices remaining firm, despite the overall economic condition being subdued. And this trend has only made it difficult for genuine home buyers to purchase properties thereby making their dream of owning a home, a lifelong one.

A bubble situation arises when rental yields come close to the 2% mark. This is what the management of a real estate company had mentioned to us during our interaction with them. At a 2% yield, it would take five decades for an investor to recover his invested capital. A long time indeed!

As per a recent report by Firstpost, properties located in the outskirts of the Mumbai Metropolitan Region (MMR) are fetching rental yields of close to 2.4 to 2.7%. With the rental yields being so low - lower than the interest earned on savings bank accounts - it would not be wrong to say that investors are seeking price appreciations, rather than rental income.

Sure, India is a market where housing requirements exceed demand. However, one must not ignore the affordability factor. The way property prices have moved over the past many years has made it nearly impossible for a common man to afford a house.

What else could possibly explain the number of unsold flats in MMR, which stand at a whopping 140,000 units? This believed to be close to 58 months of inventory; way over the figure of about twelve months - as reported by the media firm - in healthy markets.

Even from an investment perspective, having a certain amount of exposure to real estate may be good. But being a big ticket item, it is not fit for all. And taking on debt for such a large ticket item is something that would not be advisable. Also, from an investing perspective, we believe that investors cannot ignore the rental yields.

It would be easy for investors to feel that they may have missed the boat. After all, this physical asset is one that has appreciated in value many times over and has thereby outperformed all other asset classes.

Having said that, there seems to be a strong cartelization amongst speculators and developers to hold on to prices! Having a real estate regulator may be something that could really help cool things down. But when the same would be appointed is anyone's guess.

Do you think rental yields matter when investing in a property in India? Let us know your comments or post them on our Facebook page / Google+ page

01:45  Chart of the day
As per the Economic Times, the Petroleum Minister, Mr Moily has stated that he plans to deregulate diesel prices. And he plans to do this over the next 6 months. This news would come as a welcome relief for oil marketing companies that have seen huge under recoveries. A large part of these under recoveries is on account of the subsidy offered on diesel. However the question remains whether diesel prices would actually be deregulated and that too within the period of time mentioned by the minister. As seen in the chart, international prices of oil have been hovering over US$ 100 per barrel. Add to this the depreciation of the rupee. Therefore, in order for domestic diesel prices to come closer to the international prices, the diesel prices need to be raised by nearly Rs 10 per liter.

Average Oil Prices Over the Past Few Months

Given that the coming year is an election year, we doubt that the government would be keen on this rather unpopular move. For if the diesel prices are allowed to go up, then the impact on inflation would be huge. Because the prices of all goods and services that depend on transportation would see a spike to incorporate the higher diesel prices. This means that groceries, vegetables, fruits, etc would also see prices go up. This would not bode well in a country that is already reeling under the pressure of high food inflation. Already the current government has been blamed for the higher inflation rates. Therefore adding fuel to the fire would not be a judicious move from an electoral perspective. However from the fiscal perspective, this makes perfect sense as the subsidy burden would come down significantly. The question is which perspective would the government consider? Would it swallow the bitter pill and think about the country's finances? Or would it think about saving its own image and office?

----------- India at a huge risk? (It's time YOU prepared...) -----------

We believe India is at a huge risk.

And unlike what you may think, this risk doesn't come from any external factors.

The most dangerous threat to you and me is right here... within our borders... operating in our towns, cities, and villages... right under our noses.

And the outcome of it could be the End of India as we know it today!

To understand exactly what I mean, read this letter.


Remember Larry Summers? Yes, he is the same gentleman who was in the race for the Chairmanship of the US Fed. While he may have lost the position to Janet Yellen, this hasn't stopped him from making more headlines. It appears a new report that he has co-authored is creating quite a splash in media circles. And why wouldn't it? For it tries to answer a query with a whopping US$ 42 trillion implication. Just so that things are put in perspective, this number is nearly three times the size of the US economy. So what is this huge number actually a result of? Well, this is the difference that one would get if the two Asian giants, India and China, don't grow at the current rate till 2033 and instead, quickly revert to the growth the world economy is witnessing.

Indeed, the question couldn't have come at a more pertinent time for India we reckon. Given how things are shaping up, our economic growth is in real danger of collapsing to very low levels on a consistent basis. Thus, proving Summers and his partner wrong is going to require a monumental effort. And while the policymakers grapple with this problem, we as investors have to ensure that we have the asset allocation that is required to sail safely through the tough times that stare us in the face.

Which way are commodity prices headed? If the views of Goldman Sachs are to be believed, the outlook for commodities is bearish. As per an article in Bloomberg, the Wall Street bank expects gold, iron ore, soybeans and copper to fall by about 15% next year. Increase in supplies seems to bear a significant risk on iron ore prices. And the other three commodities are at risk of falling to their lowest levels since 2010.

It is worth noting that this is the first year since 2000 when international gold prices are set to report a drop. And it could very well be the case that Goldman's prediction about gold prices turns out to be true. But we have quite a different perspective on gold. We look at gold as an insurance against bad times. And that includes risks such as high inflation, reckless government policies and unforeseen catastrophes. Indians have known this for thousands of years. And that is the reason for their affinity with the yellow metal.

If you're looking for quick speculative gains on gold, then maybe you should stay away. But if you subscribe to our philosophy about gold as a long term hedge against external risks, then the price movement of gold in the medium term is immaterial.

If one had invested Rs 100 in the BSE-Sensex, NSE-Nifty and BSE Mid Cap indices ten years ago, the same would have been worth Rs 426, Rs 332 and Rs 331 respectively. As can be seen below, during the market run ups i.e. from 2003 to 2008 and 2009 till 2010 end, mid and smallcap stocks outperformed their larger counterparts by a strong margin. But during market declines, the two indices fell much sharply as compared to the Sensex.

Rs 100 Invested in the BSE-Sensex, BSE-Midcap and BSE-Smallcap indices would be worth...
Data Source: ACE Equity

On a broad basis, the three indices have moved in the same directions. However, over the past year, there seems to be a significant deviation in the movement of the indices with the mid and smallcaps underperforming the gains of Sensex significantly. With this, it does seem that the latter two indices are seemingly attractive. Given the volatile earnings, a comparison on the price to earnings basis may not relevant. However, when gauged on a price to book value basis, the BSE-Midcap Index is trading at 0.7 times, while the BSE-Smallcap Index is trading at close to 1.02 times. These figures are at their lowest in many years, thereby making the two categories of stocks quite attractive. But since these indices are a collective representation of many stocks, investors should do a thorough bottom up study before investing in such stocks (at cheap valuations) forming part of these categories. Not to forget, they should follow the broad asset allocation principles as well.

To have or not to have yet another QE? Unfortunately for Ben Bernanke that is no longer the question! The Fed chief has no option but to reckon alternative means to revive the sagging US economy. Most of his colleagues at the Federal Reserve are not convinced the excessive money printing must end. The Fed has for the time being resolved to keep interest rates near zero. This is to keep borrowing cost for corporates near all time low for a prolonged period and facilitate employment generation. At least as long as the unemployment rate remains above 6.5%. With the rate currently at 7.3% one can safely conclude that the QE withdrawal will not be possible in the immediate future. Nevertheless, as per the New York Times, the Fed is looking at means to prepare for monetary tightening. And whenever that happens there will be pain not just in the US but global markets. Investors would do well to make the portfolios resilient to such a shock.

In the meanwhile Indian equity markets have extended their losses and are trading at day's low. At the time of writing, the benchmark BSE Sensex was down by 286 points or 1.4%. All the stock indices were trading in the red. Banking and Capital Goods stocks were the biggest losers. All the Asian stocks except Japan were trading weak led by China and Hong Kong. The European markets also opened on a weak note.

04:55  Today's investing mantra
"Bull markets go to people's heads. If you're a duck on a pond, and it's rising due to a downpour, you start going up in the world. But you think it's you, not the pond." - Charlie Munger
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10 Responses to "4 to 5 decades to recover this investment!"

mohammad ahmad alam

Nov 25, 2013

I am a retired person and I had worked in the textile industry. I agree some more and some less with the views expressed here in these colums.


satish s dabholkar

Nov 25, 2013

I have not understood what you wish to say from the article on real estate.I srongly recommend that the housing sector should not be seen from the point of view of investment when many needy young family are not able to purchase the same due to the high prices.
As education,food,shelter are the basic needs of the people,Govt has to keep the prices of the same at affordable level.The Government should withdraw any concession given in income tax laws so that only genuine family members will purchase the flats for their use.The artificial High prices will come down and this will be great relief to the people than any Income tax concession.


Vipul Jasani

Nov 25, 2013

I agree with comments of Mr. Vimal Singhania.

I am surprised by such question from Equitymaster!!! On one hand, equitymaster claims to be very good on investment and does not know about the fact mentioned by Vimal!!!
Salaried people like us can not buy home because of such speculation caused by black money and wrong policies of Govt. with respect to Home loan and capital gains tax!!

High property price and lower or negative growth is directly proportion to each other.



vimal singhania

Nov 24, 2013

the real estate market is all about cash and black money.
the amount of corruption money floating in the system is mind boggling. Most of the builders are funded by such black money transactions.It helps people deploy their cash otherwise they have a problem of where to keep it.


Suresh Kabra

Nov 23, 2013

There was a time (2-3 decades ago), when buying property made sense. Then demand-supply ratio was in favor of landlords. Renting a house was a nightmare. Now the is in favor of tenants. There is no short supply of rental houses anywhere in India, incl Metros. So buying a property does not make sense. Let me explain it with an Example.
Suppose you pay rent of Rs 17000/-pm (Rs 2 lacs pa) for a flat which costs Rs 1 Cr. Whereas the amt if properly invested would fatch you upto Rs 10 lacs. Rs 8 lacs pa, thus saved if further invested can more than cover for appreciation of property. This can continue till property becomes affordable, hopefully some time in future or EMIs fall down sharply or demand-supply ratio turns again in favor of landlord.
Think over it. Like gold, property also has not remained good investment, besides living hand-to-mouth while paying hefty EMIs.


Charan Rawat

Nov 23, 2013

One of the factors driving the property prices is also the institutional and REIT money pumped into under construction projects. Second factor is free FDI in real estate sector. Because builder is well funded through these funds which have a lock in of 3 years and above, builder has no incentive to sell inventory.

The FDI funded projects as also REIT work on a fixed IRR basis which more often than not is over 20 per cent. A project completing in 4 to 5 years will warrant a price hike of at least 150 per cent over its life. This becomes a self fulfilling economic necessity and price is paid by the end users.

The recent SEBI regulations on REITs are only going to make it worse.

The real estate will become affordable only when such so called FDI or REIT or collective investments are barred in real estate sector.



Nov 21, 2013

Larry Summers most important recent contribution is on secular stagflation.We all here in India must watch the video to see the difference between the way our teachers teach us and the way a Harvard Professor lectures his audience.According to Krugman in this lecture Professor Summers has completely changed the way we understand Macroeconomics.

Like (2)

Abhay Dixit

Nov 21, 2013

Since real estate involves 40-60% black money, the buyer has already earned 12-18% returns by tax saving. The buyer is in no hurry to sell.
After selling LT capital gain is taxed at a lower rate.

So rates remain high.

Like (2)


Nov 21, 2013

Why have you left out ITC from the list of Trustworthy Corporate Poll

Like (2)


Nov 21, 2013

So what exactly is Larry Summers saying? You gave the sizzle with a huge $42 trillion number but provided no explanation. Most ambiguous post ever.

Like (2)
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