Real estate funds: What's in it for you?
After a long wait, realty mutual funds are finally available as an investment avenue for the Indian investor.
Realty funds would be close ended initially. The delay in the launch and the other safeguards, which are yet to be implemented, show the caution with which the concept of realty fund is being introduced.
The concept of a realty fund:
So far the high price of property and the hassles of buying and selling and the attended cost were a deterrent.
Like other classes of mutual funds the advantages are listing, easy entry and exit.
Since this is a separate asset class with it's own cycle of increases and declines it acts as a good counter to the equity class.
Large cash flows to the construction industry with spin offs for the economy.
First time in the history of India would you be able to do a SIP, averaging, zero capital gains tax, dividends will be tax-free. The list is mouth-watering indeed!!
History of realty funds:
Many years back a fledging attempt was made by Lokhandwala builders to introduce the concept of smaller units of real estate being held by retail investors.
However, this was not very successful. The realty fund industry in the USA is quite old. In South East Asia it was estimated that it would grow five fold over the next five years.
The delay in India is because of the innate conservatism in our financial system.
However, for the savvy investor with good investible surplus, and a high-risk appetite the returns from a direct investment in property could be higher. However, such a savvy class is in the minority.
Synopsis of the rules introduced by Securities Exchange Board of India
Minimum 35 per cent of funds are to be invested in real estate properties. Balance can go into mortgage-backed securities, shares, bonds or debentures of companies dealing in properties and property development and in other securities.
Other securities would mean debt and money market instruments.
Real estate mutual funds cannot invest in the shares of companies that do not deal in property or property development. They can invest only in real estate projects in India.
| Problems in the Property Market |
| Lack of transparency |
| Cash element |
| Legal hassles |
| Low professionalism |
| Low regulation |
| High transaction costs |
| Lesser liquidity as compared to equity markets |
| Victim of pricing manipulation or fraud |
| Inadequate documentation of history of prices at which, deals are struck |
| Lack of uniformity of laws governing property |
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| Advantages to the investor |
| Reduction of Risk (single property vs a portfolio of property) |
| Smaller amounts can be invested |
| Easy Redemption |
| Diversification |
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Does one Invest? If so, when?
Investors seeking a return over the long term can invest right away and wait till the very end to reap the benefits. The gestation period in real estate projects is long and patience is a necessity.
As usual, I do not think there is a good time or a bad time to start a systematic investment plan (SIP).
There is adequate research in the world to say that strategic asset allocation decides how much of returns your portfolio will give you. In plain English what does it mean?
It means if you choose your asset class properly, your returns will be far better than somebody who chooses the best fund in a wrong asset class.
Let us take an example. If you had invested in debt mutual funds in the period 1999 to 2002, your returns would have been better than being invested in an equity fund during that period.
However, the answer can change dramatically if you take the period from 2002 to 2006.
Thus, even if you were invested in an ordinary debt fund and your friend had invested in the best equity fund, you would have outperformed your friend by a wide margin.
Fund analysts would sum this by saying that the fund manager's contribution to the overall return, thus is marginal.
Because of this, we need to do asset allocation. Asset allocation means putting your money in equities, debt, real estate, commodities, art, antiques, cash, livestock and other asset classes.
For the common man I am assuming four significant asset classes are equity, debt, real estate and gold. All of them will soon be available in a mutual fund format; you just need to choose the strategic asset class.
A new asset class, which will soon be available, is the real estate mutual fund. I am a big believer in real estate, but was unsure about taking single property bets.
If a single property that you invest in (say borrowing and investing Rs 35 lakh - and this is about 70% of your net worth), went wrong, you could be set back by a big amount. What could go wrong?
Timing, location, bad builder, bad documentation, inability to pay the EMI (equated monthly installment), transfer to another location, inability to find a tenant continuously, are some of the risks that you run in a single property.
These are just like the risks in a single stock. So real estate mutual funds do come as a great boon.
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