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Sep 17, 2013

Residential prices under threat in India: inflation now RBI's top priority


 

India house prices India’s property market is set for tough times.  Residential property prices are falling in more cities than they are rising in real terms (given India’s high inflation, it is important to distinguish nominal price rises from real price rises).

The new governor of the Reserve Bank of India, Raghuram Rajan, has added to the pressure by hawkishly raising key interest rates, in the face of an already weak economy.

Nominal house prices rose in 10 cities (out of the 15 cities covered by National Housing Bank (NHB) Residex figures) during the year to Q2 2013, while 5 cities had price nominal house price declines.  But when adjusted for inflation, house prices actually fell in 11 cities, whereas only 4 cities experienced price increases.

House prices in New Delhi rose by around 15.7%, the third highest nominal y-o-y growth of all 15 cities. When adjusted for inflation, house prices in New Delhi actually rose by only 4.6%.

Mumbai posted a 12.2% y-o-y nominal price growth, but house prices only increased by 1.4% in real terms.

The highest annual house price increase was in Jaipur at around 41% (27.4% in real terms) during the year to Q2 2013. It was followed by Kochi, which had a 17.8% price increase (6.5% in real terms).

Faridabad registered the largest price drop in Q2 2012, contracting by 6.9%, or about -15.9% when adjusted for inflation. It was followed by Kolkata with a 3.6% drop (-12.9% in real terms) and Surat with a 2.1% drop (-11.5% in real terms). Chennai and Hyderabad also had nominal price declines of 1.9% and 1.2%, respectively.

LOCAL HOUSE PRICES, ANNUAL CHANGE (%)
CITIES
Q2 2012
Q2 2013
  Nominal Real Nominal Real
Delhi 17.01 6.23 15.70 4.55
Hyderabad -6.59 -15.19 -1.18 -10.70
Faridabad -1.36 -10.45 -6.91 -15.88
Patna -4.11 -12.94 5.00 -5.12
Ahmedabad 2.96 -6.52 6.90 -3.40
Chennai 24.60 13.12 -1.94 -11.39
Jaipur 21.88 10.65 41.03 27.44
Lucknow 6.88 -2.97 9.36 -1.18
Pune 33.33 21.06 9.50 -1.05
Surat -2.68 -11.65 -2.07 -11.50
Kochi -31.78 -38.06 17.81 6.46
Bhopal -7.59 -16.10 9.66 -0.90
Kolkata 1.03 -8.27 -3.57 -12.86
Mumbai 8.84 -1.18 12.18 1.37
Bengaluru 8.70 -1.31 8.00 -2.41
Source: National Housing Bank (NHB)

New home sales in Delhi-National Capital Region fell by 13% during Q3 compared to Q2, according to property research firm Liases Foras. Mumbai (-12%), Pune (-15%) and Chennai (-7) also experienced sales declines. The luxury home sector was the worst hit segment. Buyers are cautious, and are adopting a wait-and-see approach.  In contrast, Bangalore had an increase of 25% in home sales.

In future, prices are likely to be pulled two ways.  Upward pressure on prices is likely as a result of increases in service taxes, and the new Development Control norms, according to both Cushwake and Colliers, two major international real estate agents.

However India’s economic growth is now much weaker than during 2003-2010, when the country achieved a 8.2% y-o-y average growth rate.  India’s 4.4% GDP growth during the first quarter (April-June) of fiscal year 2013/2014 was the slowest since Q4 2008/2009.

Rajan’s moves to tighten interest rates will add to the downward pressure.

India’s housing boom era

From 2002 to 2007, house prices in India rose rapidly. Strong economic growth and urbanization supported house prices, as did inadequate infrastructure in city centres, lack of planning and antiquated land laws. From 2005 to 2007, the economy grew at 8.9% per annum, making it one of the world’s fastest growing, following on from 7.6% per annum growth from 2003 to 2004.

The price increases were accompanied by interest rates which fell to as low as 7.5% from early 2004 until 2005.  By 2006 mini speculative boom had been set off, and residential properties in Mumbai cost 100 times the average annual income. Developers’ capital rapidly grew as their stock prices increased, and they used it to bid high prices for huge plots of land, making it relatively easy to sell properties at very high prices.

During the world economic downturn in 2008 demand for luxury housing fell 50%. House prices in Delhi fell by as much as 13.08% during the year to H2 2009. Developers refocused on building low-income homes.  But India’s economy quickly rebounded, and house prices soon started rising again – supported by the accommodative central bank.

India’s rupee and inflation crisis

The dramatic appointment as RBI governor of Raghuram Rajan, former chief economist for the International Monetary Fund, came in a situation of near-crisis.

On August 28, 2013, the Indian rupee had crashed to a record low of around 68.825 per US$. The depreciation made India’s economic confidence drop sharply by 7 points to 53% in August 2013, according to research firm Ipsos.  Causes included:

  • The strong USD, aggravated by the Fed’s decision to reduce Quantitative Easing;
  • Slowing economic growth in India, rising inflation, volatility in the equity market, causing massive withdrawals of international investment
  • A large current account deficit and fiscal deficit
  • The price of crude oil

India exchange rate

In defending the country’s currency, the RBI had spent around US$ 17.23 billion worth of foreign exchange reserves during the year to September 6, 2013, leaving the reserves at around US$274.81 billion. Planning Commission Deputy Chairperson Montek Singh Ahluwalia assures public that India has adequate amount of foreign exchange reserves to defend its currency.

Given two years of rupee depreciation, it was expected that exports would be boosted.  But though there was an 11.6% y-o-y increase in exports in July 2013, the effect was limited, with rising import prices having a severe effect on Indian industry.

India GDP inflation

“Exports are unlikely to get any significant boost,” according to Indranil Pan, chief economist at Kotak Mahindra Bank. “Any benefit [from the weak rupee] will be offset by the fact that there is a huge inflation problem in India, and the cost of manufacturing is very high for local companies.”

Inflation was allowed to rise significantly during 2007-1010, and more recently has risen worryingly again.   India’s huge fiscal and current account deficits do not help. The current account deficit in 2012/2013 soared to a record high of US$ 88.2 billion or around 4.8% of GDP. The government aims to reduce it to US$ 70 billion this year.  The fiscal deficit was 4.9% of GDP in fiscal year 2012/2013.

The Reserve Bank of India (RBI) has in recent years tended to accommodate inflation, phased by the perplexing  combination of high inflation and weak economic growth.   The RBI’s stance has been extraordinarily lax, leading the prestigious Indian Financial Express to talk of The rudderless Bank of India.

India prime lending rate

For example, the RBI reduced its key (repo) interest rate by 0.25 percentage points to 7.25% in May 2013, the third consecutive rate cut implemented this year.  Amazingly, the pressure from business has been for even lower rates.  Agencies such as the Federation of Indian Chambers of Commerce and Industry (Ficci), Confederation of Indian Industry (CII), Associated Chambers of Commerce and Industry of India (Assocham), and India Inc, all urged the RBI to announce a rate cut in the upcoming monetary policy review on September 20, 2013.

Rajan took office on 4 September 2013. A day after he took office, the rupee reversed its decline and on 19 September hit a one-month high of 61.77.

On 20 September the RBI released its  first quarterly review on Rajan’s watch, announcing an unexpectedly hawkish 25% increase in the key (repo) rate to 7.5%. Measures taken by the RBI on 20 September included:

  • An increase in the key (repo) interest rate of 0.25% to 7.5%.  The local market was shocked and stocks fell – but what is surprising is how moderate Rajan’s ‘hawkishness’is, given that:
  • The RBI also eased liquidity through a reduction in the marginal standing facility (MSF) rate, at which banks borrow from the central bank, by 0.75% to 9.5%.
  • The RBI reduced the minimum daily maintenance of Cash Reserve Ratio (CRR) from 99% of the requirement to 95%, a move aimed at inducing liquidity into the system.

The message was simple: (a) controlling inflation is top priority; (b) it must not be pursued at the cost of killing the banking system.

Small mortgage market in India

India housing loans

Indian buyers usually pay for apartments before construction has been completed. Many buyers do not take out mortgage loans. As a result, the ratio of housing loans to GDP is very low. In 2012, housing loans in India were only around 4.14% of GDP. The leading mortgage lender is the Housing Development Finance Corporation (HDFC) followed by the State Bank of India (SBI). Total housing loans in India were around INR 4,033.78 billion (US$ 63.36 billion) in 2012, up by 12.3% from INR 3,590.67 billion (US$ 56.40 billion) a year earlier.

Interest rates at major banks and financial institutions range from 9.95% to around 11.10%, while fixed-rate mortgages are at 11.50% to around 13%.

The loan to value (LTV) ratio of most Indian homes should not exceed 80%, according the RBI. However, according to RBI’s Master Circular dated July 1, 2013, as of June 21, the following LTV ratios are now maintained by banks:

CATEGORY OF LOAN
LTV RATION (%)
(a) Individual Housing Loans  
Upto ` 20 lakh
90
Above ` 20 lakh & upto ` 75 lakh
80
Above ` 75 lakh
75
(b) CRE – RH
NA

Despite reforms since 1991, India’s mortgage market is held back by problems:

  • Banks prefer to lend to middle and high-income sectors, leaving limited financing options for low-income individuals.
  • The government has a huge influence on major domestic banks, discouraging initiative.
  • There’s no proper legal framework for foreclosures
  • Titling problems are rampant.

Low rental yields

Rental yields are relatively low in India. Smaller apartments have higher yields than their bigger counterparts, based on the Global Property Guide research of April 2013.

South Mumbai has higher rents than in New Delhi and Bangalore. Monthly rents range from €21.95 to €27.05 per sq. m. Rental yields range from 2.28% to 2.44%, lower than the 2.64% average recorded last year.

In New Delhi, apartments can be rented at around €7.13 to €8.94 per sq. m. Yields are also low at around 1.92% to 2.75%. However, the average New Delhi yield for this year (2.38%) was actually an improvement from last year’s average of 1.93%.

Bangalore has higher rental yields as compared to South Mumbai and New Delhi. Gross rental yields range from 3.75% to 3.97%. Apartment rents in Bangalore are cheaper, at €3.32 to €3.44 per sq. m.

 From Q4 2012 to Q1 2013, according to Colliers:

  • Rents in Mumbai fell in almost all micro-markets by 1% to 4%, except in Bandra, Colaba, Cuffe Parade, Juhu, and Santacruz.
  • In Delhi, rents for premium residential properties were stable, with a marginal downward pressure in some micro-markets.
  • Bangalore had an increase of around 1% to 9% of rental values in almost all micro-markets, while rents remained stable in areas such as Airport Road, Cooke Town and Indiranagar.
  • Rents in Chennai rose by 4% to 5% in most micro-markets.
  • Increases in rents were also observed in Gurgaon (3% to 6%) and Kolkata (2% to 5%).
  • Rents in Noida and in Pune remained unchanged in almost all micro-markets.

Bangalore’s rental market growth may be due to migration from other cities. This reflects to the 35,000 residential units launched in 2012 and 8,100 units in Q1 2013, according to the recent Knight Frank India Residential Research Report.

On the other hand, Mumbai may be suffering from lack of demand. "Some transactions in Mumbai may be taking place at 5-10% lower than last year's rentals," according to executive director for residential business at Cushman & Wakefield India, Shveta Jain.

India’s rental market is hindered by problematic laws protecting tenants. The laws are generally poorly conceived and ineffective, making implementation difficult. Although they are gradually being replaced by more market-oriented laws, the rental market’s full potential is yet to be realized.

Cities with rent controls generate lower yields. Mumbai rents in houses with sitting tenants are frozen at their 1947 levels, due to the Maharashtra Rent Act of 1999, an extension of the Bombay Rent Control Act of 1947. Delhi also has rent controls.

Weak economic outlook for 2013, sharp rupee depreciation

In 2012, the Indian economy experienced its lowest growth rate in a decade at only 4%, according to the International Monetary Fund (IMF). This was a sharp slowdown from 7.7% growth in 2011, mainly due to the weak performance of the manufacturing, agriculture and services sectors.  From 2003 to 2010, the Indian economy enjoyed an average growth rate of 8.2% per year.

Weak growth is again expected this year.  In July 2013, both the IMF and ADB cut their 2013-2014 India growth forecasts, the ADB cutting its growth forecast from 6% to 5.8% due to the slow progress of economic reforms, and the IMF reducing its forecast from 5.8% to 5.6%.  Both multilaterals may have been too optimistic - during the first quarter (April-June) of the fiscal year 2013/2014, India’s GDP grew by only 4.4%, the slowest pace of expansion since Q4 2008/2009.





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India Residential Property Market Overview 2013 - Colliers
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