The first question in a home buyer’s mind is often this: ‘Is this the right time to buy?’ This is especially true today, when property prices are a stretch. Looking at ticket sizes and per square feet rates makes one wonder whether the ruling prices are indicative of a bubble that is about to burst. Chennai’s property prices really seem to be disconnected from the average income of its inhabitants.
So, is this the right time to buy property? At the macro level, the economy plays a big part in whether real estate does well or not. The other important factor to gauge is whether the micro market where one intends to invest will prosper. Some micro markets may take off, while some may stagnate.
One thing to clearly understand about real estate investment is that the risk lies in six factors:
- Economy and interest rate movements
- Stagnation in property value because price was inflated and ahead of fundamentals
- Poor growth of the micro market where property is located
- Investment could become illiquid and stay that way for a long time
- Delayed return horizons that require patience
- Poor due diligence of legal or approval aspects
Of the risks listed above, the first, second and third are the biggest faced by home buyers in these times. To explain, consider two scenarios.
Happy scenario
Consider that you buy in a market that is a tad inflated (risk two). The purchase is based on a floating bank loan rate and you can pay the EMIs. In addition, you drive a good bargain because the developer is in a liquidity crunch and desperate to sell. You research well, and buy something in a growing micro location (risk three).
Going forward, inflation drops considerably and the RBI cuts interest rates steadily over the next two-three years. The economy picks ups and gathers steam (risk one). Industries come into the city, and income levels rise. You get a salary raise, making EMIs a breeze. There is a sudden demand for residential property in your chosen micro market. With everything going in your favour, in three years, you will be congratulating yourself on your genius.
Not-so-happy scenario
You buy a property at an inflated price (risk two). The rental yield is poor and you realise much later that the rentals are stagnant. Your purchase was at the floating bank loan rate. The RBI does not raise interest rates but it does not cut them either because of persistent inflation. The global economy falters and this affects India too. The economy is in stagflation (risk 1). The inflation eats into your stagnant income. Your chosen micro market does badly (risk three). More supply enters the micro market but demand drops. Luckily, your property does not drop in value, but given the high inflation, even price stagnation is effectively a drop in real terms. In three years, you will think that you bought a lemon.
Economic factors significantly influence real estate investments, yet these factors are not accurately predictable. Most people would say we are at the beginning of an uptick in the economic cycle, but one needs to also weigh in the fact that prices are ahead of fundamentals in most cases.
Before investing, you must ask if your earning capacity can stomach this kind of speculation. Otherwise, you could always look at alternative investing options. The real answer to ‘Is it the right time?’ is that it depends on whether the economy will do well in the future, whether the micro market sees concentrated development, how much you pay for the property, and how ahead of the fundamentals the price is.
What you can control are the following factors: the ability to drive a bargain, have patience and wait for prices to drop, have foresight to buy in a fast-growing micro market, and do complete due diligence. After that, you have to cross your fingers and hope that the rest of the factors go your way.
The important thing is to know the extent of the upside and the downside in both scenarios given above and understand the risks.
The writer is the author of The Real Deal, a book about investing in real estate. This is the first article of a two-part series.
