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Real Estate, Not That Great Long Term, says Ajay Shah


Ajay Shah writes that Real Estate is not a great long-term investment:

Too many intelligent people in India believe that one can never do wrong by investing in real estate. Some facts will help bring more sense. Consider investing in the best commercial real estate of Bombay — Nariman Point — in 1994. The price was Rs.35,000 per square foot. Today, almost 20 years later, the price is Rs.25,000 a square foot.

Over this period, Nifty produced returns of 362%. Inflation ate away 272%. Net of inflation, Nifty delivered an average annual return of 1% while Nariman Point commercial real estate delivered -9%.

This is, of course, just an anecdote. Many individual real estate investments have done very well and have occasionally outperformed equities. My point is a limited one. We should not mindlessly assume that real estate is always a good investment. We should not assume that real estate will always outperform equities — as the above example shows things can be as bad as underperformance (compared with the Nifty index fund) of 10 percentage points per year over a 19 year period.

Why did Nariman Point underperform over this period? Because of new supply. That is the heart of the problem of real estate as an asset class.There is no long term returns in owning steel or bricks. Every time there is a real estate boom, it triggers off fresh construction. This supply quenches the boom.

He makes many good points – for instance, that dramatically increasing FSI will create more supply in the same areas. Or that all of India’s population could live in an area of just 1% of our land:

If you place 1.2 billion people in four-person homes of 1000 square feet each, and two workers of the family into office/factory space of 400 square feet, this requires roughly 1% of India’s land area assuming an FSI of 1.

The rough calculation goes like this:

  • 1.2 billion people = 300 million families of four each.
  • 1000 sq. ft. per home = 300 Billion square feet of residential space.
  • And in the same vein you need 120 billion square feet of factory space.
  • That is a square where each side is 200 km.
  • But parking will be a mess.

Increasing FSI is really painful only because of the lack of parking and wide roads. The minute you have 30 floors and six apartments per floor and 10 such buildings in a complex, you need parking space for about 2,000 cars, and then work out a way to get these cars in and out of the roads without destroying traffic. Or, we need way better public transportation.

There isn’t really a lack of space in India – anyone who’s driven the countryside will attest to that. Yet, we artificially keep space availability low, through stupid laws like farmers can’t sell their land to non-farmers or that non-Himachali people can’t own land in Himachal etc.

What Ajay misses is that owning land comes with additional issues – that you can never really be sure about the ownership of the land, because of horrible record keeping in the country. That someone can ‘occupy’ your land illegally and it will take you more than a decade to recover it. And that India’s property taxes are very low – less than 0.1% of the current market value of the land, which is likely to increase as well, along with FSI, as governments attempt to finance the building of infrastructure, police, fire support etc.

Overall, while I agree that it will take very little to do actually fix issues of lack of supply in real estate, there is absolutely no political will to do so. In fact, I imagine that any party which actually did this would piss off people so much they will feel the damage in elections; however, it has to be done for developing India, even if it means the destruction of a few big men that call themselves developers.


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