Living Through It
-Nikesh Ghimire, Manager, Laxmi Bank
Sometimes I think real estate crisis is the most talked, discussed, argued and analyzed subject across our society. But then again, I believe much remains to be talked, discussed, analyzed and understood in this regard. While governments don’t seem to tire of levying stringent regulations to ‘protect our economy’, investors don’t seem to tire at all of complaining how central bank policy completely paralyzed their finances and banks are ever more wary of additional exposure in this sector and fear the worst!
There is no arguing that each of them have their own fort to protect and are thus justified in their individual stand. And the fundamental flaw in this economic cycle is the ‘willingness’ of banks to take higher risks in real estate loans as they are the ‘safest’ exposures to take. Especially when all other places to invest are covered and the competition is further soaring up. Now let’s let the government tackle this issue and focus on our individual problems--how to deal with real estate? When do we see it as a safe bet and when should we start seeing land prices as a bubble?
Fundamentals to Real Estate Investment
For an individual or a household, real estate is the most important investment of a lifetime. And invariably, everyone you talk to will tell you how real estate investment is the safest bet for all your money. But before we start with the investment factors, let’s first discuss the basic traits of real estate property:
1. Perpetual – the piece of land will ALWAYS exist. Except if it is next to a river, cliff, etc. and runs the risk of being ‘unusable’ at a point in time.
2. Unique – no two pieces of land are the same. Each piece of land is unique!
3. Resourceful – All resources above and below the land, belong TO the land
4. Economic Value – all three above combined, and what activities you can do on the land to make money on it, determine its economic value.
And when you price a land, there are two ways to see it. One is to consider points 1, 2 and 4 above – if you want a residential property. But a commercial purchase will focus more on the last two points. For a residential property, its economic value is access to electricity, water, clean air, good society and general safety. But if it’s a commercial property, the economic value to consider is the rent you can draw on it over a certain time. A rule of thumb is to look at 50 years.
For this reason, land prices don’t fluctuate very fast. If it does, it’s on pure speculation. And, straight minded people like us should keep away from such speculation and postpone the decision till the prices have stabilized.
When to buy/sell?
It’s a billion dollar question with no real answer to it. If there were, and I knew it, I’d be off buying and selling, instead of writing about it here. I’d be a billionaire myself! The closest one has gone to identify the indicators from price fluctuations and speculations is to summarize the following:
1. Real estate is a long-term investment. When they start being treated like shares, bonds or commodities whose prices change every day, majority of population is bound to be hurt financially. The basic traits of real estate make them resistant to short term fluctuations. Rapid price changes (especially increase in prices) are always abnormal!
2. First ones to buy, during price hikes, make the most money. The ones who buy later, after seeing a lot of others buy cheap before, run a higher risk of feeling the pain of price going down.
• First ones to sell, as the prices are going down, make the obvious best deal out of this fluctuation.
• As banks begin to make new offers for home loans, investment times have begun. As more and more offers come, your risks grow higher with them.
3. If land prices (non-residential) are higher than what is anticipated to be earned from that land in 50 years, time to start selling your real estate investments.
• If you observe more people buying residential properties simply to rent out to others instead of self-consumption, it’s time to sell – not to buy!
• If the price of land is changing too fast, keep your hands off the purchase. Any option that is too good and fetches easy money too fast is a killer. Few make good buck while most greedy investors sit back and regret their decisions.
Investments in real estate are to be made by anticipation of returns in ‘decades’, not ‘days’. It’s also a primary instrument to hedge inflation and increase asset base. However, it rids you of liquid cash that might be needed in emergencies; having to sell them at a compromised price to pay for emergencies will make you regret your investment decision. Thus, it is wise to ensure sufficient liquidity before you sink your funds in the longest term investment you make in life – Real Estate! n