Cherry Picking
In a market where most sectors have been lifted by a rising tide, real estate is still in choppy waters, though there are some stirrings of hope. After the lull of 2015, when sales dipped sharply and inventory of developers swelled, the sector has seen some movement in 2016, especially after the Union Budget.
The change has been triggered by some big policy decisions. First, the government launched a scheme to provide affordable housing for all in a few years. Then, Parliament passed the Real Estate Regulatory Authority (RERA) Bill, giving hope that the industry will become more transparent and investor friendly. Besides, the tax exemption on distribution of dividends from Real Estate Investment Trusts gave companies an opportunity to deleverage balance sheets.
These, and some more, triggers pushed up the CNX Realty Index by 46 per cent in the past six months. Marathon Realty was the best performer (rose 103 per cent) during the period. Anantaraj and DLF followed and rallied 89 per cent and 86 per cent, respectively. Oberoi Realty rose 40 per cent. However, there are also stocks like Hubtown, which fell 12 per cent; some, such as Purvankara, SRS Real Estate and Poddar Developers, remained flat. "Despite the poor market sentiment, the sector has been witnessing a qualitative change in recent times," says Anshuman Magazine, Chairman, India and South East Asia, CB Richard Ellis (CBRE). So, is there an opportunity for retail investors to make money from real estate stocks at this juncture, when we are seeing mixed trends?
Measuring D-Street Pulse
Dalal Street is excited about the improvement in sentiment during the second quarter of this year. But anxious too. On the one hand, we have had good monsoons, low inflation, and can hope for a cut in interest rates, while on the other hand there is huge unsold inventory with builders, pricing pressures and falling rental yields. "If fundamentals are in favour, the trend of stock-specific movement will continue. There is still room for upside as markets tend to find opportunity in sectors that are most neglected," says Daljeet Singh, Head of Research, India Nivesh.
Market experts are bullish about the future in view of the reforms that are expected to be implemented in the coming months. However, Deven Choksey, Managing Director, Choksey Shares and Securities, warns that one has to choose wisely from the pack, keeping all parameters and risks in mind. "It's mainly asset-light models that are in favour versus companies that have huge land banks. This means one must watch out for companies that are partnering with landowners and executing the project. Sharing and maintaining assets brings efficiency and does not block capital." He says valuations seem a bit stretched "but the focus should be on scalability of operations and timely delivery of projects."
How to pick stocks?
Here are a few criteria one must look at before placing the bets.
Zero/low debt companies: Now, most real estate companies are burdened with huge debt, which is putting pressure on their balance sheets and affecting their ability to execute projects. Low or zero debt reduces risks from fluctuating revenues and interest rates and makes a company less dependent on external factors.
High transparency: Companies must be fair in terms of disclosures. This will ensure that investors are well informed about developments, both good and bad, in the company.
Low execution risk: Investors must look at companies with a record of efficient execution as opposed to those that take up multiple projects but do not implement them as promised.
Issues plaguing the sector
There are many roadblocks that have harmed the growth of the sector. This reflects in stock prices of realty firms.
Delay in project completion: The brunt has been borne by most home buyers of late. Neeraj Bansal, Partner and Head Building, Construction and Real Estate Sector, KPMG, says a developer has to go through 34 regulatory processes for receiving permissions. Delays in securing these increase costs by 20-30 per cent.
No long-term funding options: Unlike power and other infrastructure industries, the sector lacks long-term finance options and good regulatory support. With a lifecycle of about eight years for any good project, developers get short- to medium-term financing and that, too, at steep interest due to the sector's higher risk weight. "With higher interest cost, it is natural that you'll be saddled with higher debt. This is a key area of concern," says Bansal. This means developers have to take recourse to informal funding and internal accruals. This makes the process cumbersome.
Land supply and related issues: Limited availability of serviced land, lack of clear land titles and title insurance are major hindrances. Land supply can be increased by improving density norms, paring the multiplicity of approvals and ensuring the development of basic infrastructure.
Trust deficit: The end-user lacks faith in developers due to innumerable delivery delays. The trust can be restored through better execution, project monitoring and compliances. The regulatory processes should enforce this.
Unregulated sector: Lack of good regulations and no entry barrier for developers have brought non-serious players into the market. However, with new laws being designed, implemented and enforced, the companies will have to soon become more accountable.
Lack of manpower coupled with lack of a stable tax regime are also other problems the sector is facing.
The Road Ahead
Should the investor be worried about the future of the sector? Magazine of CB Richard Ellis says, "Easier processing and licensing norms, together with recent government initiatives, have brought some positivity into the market. The planned infrastructure improvements, increased investment opportunities and timely implementation will provide a boost to the sector."
Not that this will be easy. The residential segment has seen a 15 per cent dip in sales on a year-on-year basis. That is why the uptick in demand is a must. Here, CBRE Research says the complete impact of rate cuts last year is still to be felt and banks still have room to cut the rates further. This should help the residential segment. Mid-end and affordable housing segments would perhaps drive this. According to consultancy and accounting firm KPMG, 110 million houses would be required to provide housing for all by 2022, and housing demand is almost equally distributed between urban and rural areas in the range of 50 to 60 million units.
Is the pick-up already happening? Some think so. Niranjan Hiranandani, Founder and MD, Hiranandani Group, says, "Residential sales have picked up, though it's not universally applicable, as certain pockets like Noida have not seen too much demand and price rise hasn't kicked in yet. But it's a bullish path ahead. The commercial space, however, is by far a winner. We have clocked in maximum sales in the last 12 months and see CAGR of 15-20 per cent this year." Commercial sector, most agree, is in a sweet spot. "Vacancy rates are low. Absorption is good. New supplies will find takers. There is good demand from ITes and banking sectors. So, for the next two-three years the sun is shining," says Bansal.
Conclusion
There is a plethora of opportunities as 11-12 million people are getting urbanised annually, leading to demand for employment, offices and residences. Reforms have brought in better direct & indirect tax policies and a regulatory authority and finally it seems that the system is being streamlined.
Real estate stakeholders are bullish about the future and expect the business environment to improve in the coming six months. Analysts, too, are in the mood to buy at the lows but are adopting a cautious approach in picking the right stocks.
