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Real Estate Exposure Curbed

Sebi concern pushes mutual funds to trim their real estate exposure

Stock market swings and mood swings have something in common; they are both unpredictable. Sector investing finds favour amongst fund managers and investors who bet on sectors in anticipation of profits. The real estate sector has been out of favour over the past few years after a heady run between 2005 and 2007. Many real estate companies cashed on the opportunity and got listed in this period and the sector was the favourite amongst mutual funds as well as retail investors, with realty stock prices rising.

In recent months the sector has been in the news for all the wrong reasons; Adarsh housing scam, bribe-for-loan scam and the end of teaser loan rates have all impacted real estate directly or otherwise. To add to the woes of the sector, market regulator the Sebi has asked asset management companies not to have any real estate exposure in capital protection-oriented schemes. Moreover, as per the Sebi guidelines, capital protection funds are required to invest only in high-rated debt papers.

Real Anxiety
The regulatory move is because of lack in transparency, evident in the the realty sector. Add to this, lack of regulation in the sector compounded by artificially inflated real estate prices are cause of concern when making investments in this sector. The bribe-for-loan scam further vindicates the regulator’s concern in asking AMCs to reduce their exposure to real estate debt. Moreover, past experience indicates that real estate is a highly leveraged sector with its ability to repay loans always a cause of concern.

This has also resulted in reduction equity mutual fund exposure in real estate scrips as well as reduced exposure ino debt papers. Today, the asset management industry’s exposure to real estate company debt paper stands at Rs783 crore, compared to the peak of September 2008, with Rs7,500 crore and Rs6,218 crore that the fund industry had in January 2008 at the peak of the last market rally. As in October 2010 portfolio, the equity fund exposure in mutual funds is Rs1,622 crore, which is less than one per cent of the total mutual fund equity investments. Mutual funds had the least exposure in February 2009 valued at Rs119 crore.

The BSE Realty index has been down since January 2008, with a few months when it has gained marginally, but it yet to reach anywhere close to the levels it attained in 2007-8. The BSE Realty index was the worst performer in 2008 losing 82 per cent compared to the 52 per cent Sensex fall. On, their part, fund managers have been cautious with their exposure to realty stocks. By the end of 2007, when real estate stock prices were at their peak, mutual fund’s investments in this sector was 1.13 per cent or Rs2.356 crore across 24 stocks. Also, on analysing mutual fund holdings in real estate stocks, only six fund schemes held over 5 per cent of their holdings in a single stock in this sector. JM Mutual had bet heavily on Unitech with JM Balanced accounting for 10.65 per cent, JM HI FI with 8.10 per cent and JM Equity with 5.40 per cent.

The other three mutual funds were Reliance Regular Savings Equity with 13.12 per cent in Pratibha Industries, ICICI Prudential Fusion with 11 per cent in Orbit Corporation and LICMF Children Fund with 5 per cent in Orbit Corporation. Many equity mutual funds had investments in real estate stocks such as DLF, HDIL, India Bulls Real Estate, Mahindra Lifespace Developers and Unitech amongst others. While, many still continue to hold investments in these stocks, their holdings have been on the decline.

As in October 2010, with 6.73 per cent holdings in DLF; Taurus Ethical was the only fund with such a high proportion of its assets in a single real estate stock. None of the remaining funds have real estate exposure beyond 5 per cent, although the number of funds with real estate investments is on the rise. Collectively funds invested Rs182 crore in India Bulls Real Estate alone in October this year, the highest investment made by mutual funds in a single real estate stock.

Future Tense
The real estate sector today faces problems on various fronts. In recent times the Reserve Bank of India has increased the risk weightage on housing loan above Rs75 lakh, making it difficult to get loans. The rising interest rates also do not augur well for borrowers as affordability takes a beating with loans getting tough to get. The impact of all these factors is reflected in the way the realty sector is performing. Though the BSE realty index gained 18 per cent in the July-September quarter this year, it is still 18 per cent below what it was a year ago.

Equity research companies tracking this sector have also raised concern over the increasing debt financing by real estate companies. Some point out the inability of many players to reduce their debt liability, with many companies actually refinancing their debt than reducing it. With the sector, which heavily depends on debt to finance projects and create land banks, is in a spot; investors should be vary of investing in this sector or make sure they understand the complexities.