My good friend Sid is visiting me. His folks in Delhi are telling him to buy into real estate in Noida with the hope that prices will rise and returns will be good. It looks like a good proposition but with only a slight complication – my friend already has a house in Pune.
So here it is – in continuation of my “How many” series, let’s talk today about something which will help you answer how many properties should I own. Properties could mean both commercial or residential here.
Real Estate as an investment class is very close to Indians. We always derive more satisfaction and happiness at something which we procure ourselves and which is tangible and if that happens to be a house we want to live in, then the satisfaction is more consummate.
One home is a must !
When investing in real estate, make sure that the first house you buy is meant for your living purposes. The idea here is that before you invest into something that can jeopardize your capital, make sure you have a roof above your head. So when you buy your first house, understand and accept that it is for you to stay in.
Of course, your job and other eventualities of life might take you to different cities, but the primary objective of the house is meant for you to stay in. You should not buy your first house for investment purposes. Buy it to stay in it.
Now it is a no brainer that a simple two bedroom flat in India will cost a huge amount. If one looks at his asset allocation with a home thrown in, it is obvious that a major part of it is usurped by real estate, in some cases, as high as 90%. That is a great fallacy of financial planning – you cannot put all the eggs in one basket.
One needs to diversify. If unfortunately, you buy an apartment that contributes a significant portion to your overall asset allocation, then you need to invest big time in other asset classes to make your asset allocation balanced.
The point I am trying to make is that buying property in India skews your allocation to real estate a lot and profuse exposure to one single asset class can be detrimental to your financial health if that asset class were to under perform.
One property is a must
In most cases, it transpires that your first real estate venture will form a major chunk of your portfolio anyway. If you happen to invest into another property on top of that, you are essentially increasing the percentage of real estate in your portfolio – you are adding the same types of eggs in your basket. If real estate were to perform badly, like they did in 2008, your personal net worth would make a tortoise of a progress.
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Secondly, real estate is a very very illiquid asset class. Selling out could easily take months and in many cases more than that if you do not get the right selling price. Investing in a second home with the assumption that you will make a killing by selling it off when you want to is a great myth that many investors have succumbed to.
Thirdly, real estate can never consistently give returns the way it did in the boom time of 2004-2007. It has its own cycle and you don’t want to get caught at the top of the sine curve – there is only one way down from there.
Having looked at the reasons above, I feel buying a second home is a strict no no for the average investor.
However, a second property investment could still make sense if you have enough cash parked in other investment areas – this makes it feasible to take more exposure to real estate. Generally, having 40% – 45% of your net worth in real estate is OK in India. Obviously, you need to take the help of your financial planner for this decision.
Residential or Commercial ?
Small investors are better off buying a house for self use so obviously they have to buy a residential unit.
If you have made up your mind with the help of your financial planner to go in for a second real estate investment, then ask yourself what your purpose is. If it is earning money from rental yields, then commercial is better than residential. Commercial properties earn more rentals than residential ones.
But it is the latter that appreciates more in capital over a period of time. In India, the demand of residential units is more than the supply and over a long period of time, residential properties will appreciate more than commercial properties. There are exceptions of course. However, most commercial properties are beyond the reach of small investors. Thankfully !
So, can you ask yourself now how many properties should I own ? Sid will have only one for now.