Real Estate Mutual Funds to Provide Realty Bite to Retail Investors

April 18, 2008	(Be the first to rate this story!)  Loading ...
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The decision of the market regulator SEBI to allow real estate funds at stock exchanges would soon benefits from exponential growth in the real estate market within the reach of retail investors even if they are not able to buy homes or commercial properties at the prevailing sky-rocketing prices.

Earlier, the Securities and Exchange Board of India (SEBI) had delayed the decision due to certain objections raised by the Institute of Chartered Accountants of India (ICAI) and other organizations. Now these have been resolved and SEBI is ready to allow stocks exchanges to launch real estate mutual funds. A real estate mutual fund (REMF) has investment objective to invest directly or indirectly in real estate property and should be governed by the provisions and guidelines under the SEBI (Mutual Funds), Regulations, 1996.

According to industry estimates, the real estate business is estimated to be of over Rs 67,500 crore and growing at the rate of 30 per cent a year. In the next 10 years, it is estimated to witness a gigantic rise of Rs 4,72,500 crore.

The real estate industry has been largely contributing to the GDP. Its share has shot up from 5.25 per cent in 2002-03 to 7 per cent in 2004-05. The market is large and is demand driven. It has been making appreciation in value over the years.

With the demand fundamentals displaying unusual strength, a majority of corporate have forayed into the business, each jostling hard to make hard cash. The real estate mutual funds, once launched are expected to give a push to the organized real estate business and improve in supply of housing in the urban areas, besides benefiting the investors as well. Investing in real estate mutual funds has become a common concept in the US and Europe. The US Government has always wanted to broaden the space for real estate investments and reach to small investors.

At present, there are more than 300 funds functioning in these countries. They are mainly of two types ? Real Estate Investment Trust (REIT) and Real Estate Mutual Funds (REMF). These funds generate a major part of their revenue from real estate development management (own and operate), rental or direct investment in physical property. This constitutes 60 per cent. A minimum of 35 per cent of the funds often goes as a part of investment in properties.

The remaining part can be either in mortgage-backed securities, shares, bonds or debentures of companies trading in different securities such as debt and money market instruments, but not shares of companies that do not deal in property. Despite volatility in the stock markets in recent months, the mutual fund industry in India have grown to over Rs 5,00,000 crore and it gives a chance to reap benefits from all sort of industries including small and medium enterprises, gold business, IT, banking, pharma and other sectors.

In the real estate sector, at present, according to SEBI regulations, individual investors in a REMF must invest at least $11,500, but the current players have set minimum contribution at far higher levels.

Though real estate funds set up to invest only in India have already raised modest sums, Merrill Lynch forecasts that the Indian realty sector will grow to $90 billion by 2015. The venture capital arms of HDFC, Prudential ICICI, Kotak Mahindra, IL&FS, Kshitji Venture have such products, but only for big investors.

According to Association of Mutual Funds in India (AMFI) chairman AP Kurian there is huge potential for the market of real estate mutual funds, and once the guidelines are issued, fund houses could come out with close ended interval funds. Currently only venture capital funds are allowed to offer real estate funds to high net worth individuals, institutional and global investors. So retail investors are bereft of reaping dividends from growth in the sector.

The REMF, once launched, are expected to declare net asset value (NAV) daily or at an interval. Though the states have imposed high stamp duty in the realty sector up to 15 per cent, but the mutual fund industry would have to bear the cost.

The SEBI is expected to issue clear guidelines on the valuation of assets to ensure credibility of the products? among retail investors. Earlier, the Reserve Bank had also warned about potential asset price bubble considering strong demand for housing and buoyancy in real estate prices in an environment of non-transparency.

REAL ESTATE INVESTMENT TRUSTS The REMFs are different from Real Estate Investment Trusts, which are listed in stock exchanges. The Real Estate Investment Trusts (REITs) would have potential to hold at least 5 per cent share of the total global real estate market by 2010, the size of which would turn to USD 1,400 billion in next years, according to joint paper prepared by the ASSOCHAM and CRISIL.

The paper namely ?Indian REITs; Are We Prepared?, says that by 2010, REITs alone would hold a market size of USD 70 billion of the total real estate market as its concept is gaining ground in countries like India and other developing nations. The basis for the projections is based on gross state domestic produce (GSDP) estimates for 2003-04 and an average annualized yield of 10 per cent.

In Indian context, REITs can help provide an exit route for developers to revolve fund more efficiently and will provide opportunities to retail investors to participate in the real estate sector and provide asset diversification to corporate investors, besides building a vibrant secondary real estate market.

INTERNATIONAL EXPERIENCE The global REIT market comprising 491 REITs in 19 countries of which the US still accounts for over half of the global REIT market (53.2%), although this percentage has been declining as a result of conversion of public REITs to provide REITs in the US and REIT IPOs elsewhere. The growth of increased profits of REIT markets has led to an increased level of specialized global REIT funds being launched.

Australia is considered to be the largest REIT market after the US; more than 12% of global listed property trusts can be found on the Australian Stock Exchange (ASX). The country is one of the oldest and least restrictive of the listed property trust (LPT) markets in the world.

Australia’s market is not stringently regulated compared to other global REIT systems, evidenced by there being no listing requirements, gearing or interest coverage limits, limits on developments and restrictions on diversification, ownership or management etc. Australia launched its first LPT in 1971 and in the last 35 years has experienced very successful growth; the quantum of listed and unlisted REITs under management has increased by 29 per cent to reach USD 285 billion, now nearly 13 million investors in 2007.

Some key drivers in the success of LPTs in Australia are transparency of information- all investors (retail and institutional) have access to a wealth of data to enable informed investment decisions, brokers specializing in LPTs/REITs who have come up due to the success of this asset class and is self-perpetuating the success and securitization which has allowed retail investors access to such assets which were hitherto out of reach. In France, the 2003 Finance Bill opened the door for REIT style investments by allowing real estate companies listed on the French stock exchange to convert into ?Societies Investments Immobilizers Cotees (SIIC) and becomes eligible for tax exemption on rental income and capital gains.

REITs were launched in the UK in 2007 and real estate investments are done through ?Pooled Managed Vehicles (PMVs). While these are different from Open-ended Investment Companies (OICs), they can be in the form of Trusts.

The regulator for these PMVs is the Financial Services Administrator (FSA), as is the case for OICs. They, however, can have variable capital and are similar to open-ended mutual funds. PMVs get tax benefits based on the investor profile; at least 75 per cent of the PMV?s total profits must be derived from the property business.

TAX BENEFITS REITs are not obliged to pay tax on net income but 90% of the income has to be distributed as dividend. The dividends are exempted from tax. Any company that qualifies as REIT is allowed to deduct dividend paid to its shareholders from the corporate taxable income. Real Estate Funds in the US have reportedly been able to yield high returns of 12.5 per cent annualized on a five year basis.

News Published Under:   Real Estate India |

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