Besides issues like transaction and maintenance cost, real estate suffers from lack of returns, unless booked.
Most Indians believe the real estate is the best asset class. This belief stems from its ever-increasing prices and the number of nouveau rich it has produced overnight. However, the return a developer or a builder can reap from realty is significantly higher than what an investor can.
The first misconception is that since God has stopped making land, it is best to invest in it. If one looks out of the window while on board an airplane, one realises the folly of this argument. There is plenty of land available. In a country like India, encroachment and title clarity compounds the issue further for an ordinary investor.
The second misconception is that real estate is tangible and, hence, a good investment. Equity represents as much tangible assets as real estate. The difference is that we are unable to see it, and feel it, like real estate.
The third misconception is that realty doesn't give negative or volatile returns like equity. The fact is most real estate will give a negative return, if you try to sell immediately after buying. The transaction cost in real estate from brokerage to stamp duty, and the difference between the buyer's and seller's price due to illiquidity creates immediate negative return. Since people don't trade in real estate, and hold it for a long period of time, without looking at day-to-day prices, it gives them return over a long period of time. If the same principal is applied to equities, surely, these will give great returns like real estate.
The fourth misconception is that it gives better returns than equities. BSE Sensex has compounded from January 1, 1980 till October 3, 2011 at the rate of 16.72 per cent annually (without considering dividend reinvestment). A flat in Samudra Mahal at Worli that was sold at Rs 700 per sq foot in the 70's and was last transacted at Rs 107,000 per sq foot has compounded at 12.79 per cent annually (without considering transaction cost and maintenance charges). In simple words, the Sensex is up about 136 times in that period while the flat in Samudra Mahal is up about 46 times. Equities have outperformed one of the most renowned Mumbai property by about three times, without looking at dividend reinvestment and maintenance outflows. Surely, in the last five or 10 years, real estate has outperformed equities, but that is one of the reasons why equities look cheaper today.
One crucial difference is, while real estate requires outflow in the form of maintenance charges and repairs cost, equity creates inflows in terms of dividend. Obviously, if you rent out your property, it can create inflow, but then it creates another issue of getting the right tenant. Sometimes, realty return comes from inherent leverage in the product, like booking of flats on down payment and paying money over a period of time. In equities, we are comparing returns on a non-leveraged basis.
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Real estate, like any other asset class, is cyclical. The return varies over different time periods. Transaction cost, maintenance charges, illiquidity and non-transparency in the sector makes life difficult for an ordinary investor. Real Estate, like equity, has done well for the long-term investor. One should not put all the eggs in one basket. Asset allocation is the best way to grow wealth over a period of time.
(Views expressed are personal)