REITs may never take off   Aug 13, 2010

Weekly Facts
	Close	Change	%Change
BSE Sensex	18,073.90	98.9	0.54%
Re/US$	46.77	0.6	1.26%
Gold Rs/10g	18,405.00	375.0	2.08%
Crude ($/barrel)	76.64	5.7	6.91%
FD Rates (1-Yr)	5.75% - 7.10%

Impact

The Real Estate Investment Trusts (REITs) may never be introduced in India as SEBI; the capital market regulator is having second thoughts over implementing REITs. According to SEBI, in a country like India REITs may not be suitable as the property market here lacks depth and liquidity. Moreover it is also of the opinion that, the existence of both REITs and Real Estate Mutual Funds (REMFs) may confuse the investors.

REITs operate on the same lines as mutual funds do. They (REITs) deploy investors’ money into real estate assets, mainly in commercial property and pay the rent collected from properties to the shareholders (investors). The proposed REIT model in India has the same concept of a sponsor, the trustee company and the asset management company. However, the application for grant of certificate of registration for REITs has to be made by the real estate investment trust and real estate investment management company, separately.

On this issue Ashish Joshi - Managing Partner-Real Estate of Milestone Capital Advisors is of the view that, "In the financial sector, more the options, better it is for investors. I don’t think that both products are similar in nature. REITs have been successful and there is no reason why they would not co-exist with REMFs; it is up to investors to choose".

Shahzaad Dalal - Vice-Chairman of IL&FS Investment Managers, also shared similar views; he said, "Both (REITs and REMFs) are good alternative investment options. With the correct set of regulatory oversight, these could be good instruments for investors to diversify their portfolio".

In our opinion launching REITs in India would not make much sense as the model has similarity with that of real estate mutual funds. Moreover in India, the real estate markets lack the required depth and regulatory framework to make REITs successful. At present, investor awareness for REITs is also poor in our country.

Impact

In 2007, the global economy was booming, and Indian equity markets (BSE Sensex) too were on an upswing. Later, as we entered the new year (2008), there was renewed excitement, which thus led to the BSE Sensex touching its all time high of 20,873 points - a level almost close to 21,000 points. This interestingly made the bulls greedier rather than being fearful. There was absolutely no element of fear; but just greed, greed and more greed. But this had to end somewhere, and it did end as the U.S. Subprime mortgage crisis emerged. On January 21, 2008 the BSE Sensex tanked by -8.0% and suddenly the mood of fear gripped over greed. Further in September 2008, Lehman Brothers - one of the world’s largest bank went bust, and changed the investment mood completely in the equity markets around the world. But, as these economic turmoils kept emerging, gold became bold, as wise investors took refuge in this asset class.

So, if one had invested Rs 10,000 (in lump sum manner) on January 01, 2008 in Indian equities by being excited by the upswings of 2007, his investment would have yielded him Rs 8,901 - a wealth erosion of -11.0% in absolute terms today (on August 11, 2010). However, if one were a little smarter in realising the ballooning in equity valuations then, and had invest Rs 10,000 in gold on the same date his investments today (on August 11, 2010) would have been worth Rs 17,124 - wealth creation of 71.2% in absolute terms.

At present also, the Indian equity markets are close to their previous highs and are showing an indecisive movement. Moreover, the talks of a double-dip recession, is also infusing jittery sentiments in the global economic outlook. Hence in such a scenario (understanding that economic uncertainties still prevail), our recommendation to investors’ would be take refuge in gold - invest in gold ETFs. One should also stay invested in equities and invest more in the Indian equity markets by staggering his investments - by adopting the Systematic Investment Plan (SIP) route. Since this will enable one to manage the hiccups of equity markets well and also provide the advantage of rupee cost averaging and compounding.

Impact

Maintaining a firm stance over guaranteed returns on Unit-Linked Pension Plans (ULPPs), the Insurance Regulatory and Development Authority (IRDA) has ruled that the insurers will have to provide guaranteed returns of 4.5% on gross premiums untill March 11, 2011, and post that date the returns will be linked to the reverse repo rate. Hence now investors will stand to gain half a percentage point more than the average reverse repo rate at the end of each quarter. In a note to the insurers, IRDA also mentioned that the returns will be in the range of 3.0% to 6.0%.

In case of group pension plans, the guaranteed return will be applicable to individual contributions made to group pension products, if the contract has been in force for five years continuously.

On this issue, insurers had earlier met the regulator and requested that 4.5% guaranteed returns should be paid on the net premium. However, the IRDA rejected this plea, which made many insurers predictably unhappy. Even an actuary of a large insurance company had expressed concerns saying, "Managing this return on gross premium will make the product costlier by 2%. We wanted return to be subjected to net premium,"

We believe that such a measure taken by the IRDA, would be in the long-term interest of policyholders and will be beneficial once the new rules come into effect from September 1, 2010. Moreover, going forward this may also induce insurers to provide efficient service to the policyholders as there would be increased competition due to standardisation of products.

Impact

In a recent directive issued by the Securities and Exchange Board of India (SEBI) to mutual funds (MFs), investors will now stand a chance to exit from a mutual fund scheme, if the methodology to compute the total expenses (charged from a investor) is changed.

At present, mutual fund houses broadly charge the investment management fee and the redemption expenses to a fund. They currently charge a flat fee of 2.25% on the average daily or weekly net assets of the fund.

Interestingly some fund houses are also following the practice of pampering their agents and distributors with lavish incentives like cash payouts and foreign junkets, in return for higher sales, which is going unnoticed and is passed on to the investors.

We think that this initiative taken had a long standing requirement and SEBI has appropriately noticed the same and acted in the right spirit. Moreover, we feel that this certainly is a pro-investor move taken by SEBI, which will penalise mutual fund houses for unduly changing the method of computation of total expenses, and for pampering the junkets of agents and distributors, at the cost of investors’ funds.

INTERVIEW

In an interview with the Business Standard, Mr. H. N. Sinor - Chief Executive Officer of Association of Mutual Funds in India (AMFI) expressed his views over the difficult times faced by the Indian mutual fund industry, and how the industry can overcome this difficult phase.

On the difficult times faced by the Indian mutual fund industry, he said, "The industry is in somewhat of a quagmire right now, still trying to adjust to the changes". But he is of the opinion that, this is a transition phase which will put in a better system in place. However having said that, he strongly believes that a gradual approach for banning entry load, would have been better; given the subdued levels of inflows in the industry. He also did mention that some members (mutual funds) are still talking about the revival of the entry load. But he thinks that they (entry loads) may not come back.

He believes that in order to overcome the difficult phase, the industry will need to come together and speak in one voice. He also feels that industry will need to change its business model to survive in the system. According to him, at present the industry is a little fragmented and the members do not reach consensus on many issues. "Only after proving our credibility can we can work out a roadmap to go ahead and approach the regulator", he said.

AND OTHER NEWS...

• In an interesting ruling, the Madras High Court Bench said that banks cannot charge interest on the housing loan from the date of filing of the case till the date of realisation of the amount, at the rate on which the loan was granted to the customer.

• According to the Associated Chambers of Commerce and Industry of India (Assocham), inflation is likely to touch the 15% mark in the next two months on account of the fuel price hike and increase spending, due to the upcoming festive season. They are also of the opinion that the Consumer Price Index (CPI) inflation too would rise to 18%.

• In attempt which will provide more flexibility for trading in gold (in the domestic physical market) and also hedge positions on futures exchanges, Indian banks are seeking approval from the Reserve Bank of India (RBI) to permit them to trade in gold.
  
  At present the banks are allowed to only sell gold, they cannot buy it. This in a way affects the competitiveness of banks vis-à-vis star trading houses and trade bodies. Banks have also asked for permission to invest in gold Exchange Traded Funds which would eventually improve the liquidity in gold ETFs.

• In order to provide a city-specific assessment of real estate projects, rating agency CRISIL has introduced Real Estate Star Ratings. This assessment aims to evaluate the inherent risks involved in real estate projects which in turn may impact the quality of the project. Various parameters would be considered such as the quality of legal documentation, construction-related risks, financial flexibility/viability of the project besides the background and track record of the project sponsor, in the rating process. The rating will be specific to each city ranging from City 7-Star being the highest to City 1-Star being the lowest.

• The RBI permitted Non-Banking Finance Companies (NBFCs) to participate in currency futures through exchanges only for the purpose of hedging their underlying foreign exchange exposures.
  
  This will give NBFCs access to trade in currency futures on all the four pairs, viz., US dollar-rupee; Pound Sterling-rupee, Japanese Yen-rupee and Euro-rupee. The NBFCs would have to disclose in the balance-sheets all transactions carried out in this regard. It would now be interesting to see whether the entry of NBFCs improves the daily trading volumes in the currency futures.

• The RBI asked banks to put in place a suitable mechanism to provide the benefit of the 1% interest subsidy granted by the Government on home loans to buy a house of upto Rs 20 lakh.
  
  "Banks are advised to put in place a suitable mechanism to ensure that the eligible borrowers avail of the benefit of interest subvention for one housing unit only," RBI said in a notification.

• According to a survey conducted by the Federation of Indian Chambers of Commerce and Industry (FICCI), the manufacturing sector growth will be moderate in July-September period (as compared to the previous quarter) due to the gradual phasing out of the stimulus package and rising input cost. On the exports front the outlook is positive for the manufacturing sector, the survey revealed. According to the survey, the employment situation will improve as most of the sectors are planning for expansion.

• The RBI is processing applications of 18 foreign banks which are keen on setting up branches and representative offices in India. RBI said that they are preparing a discussion paper to study the impact of such a move on the domestic banks and would take some time before coming up with the final recommendations on granting new licences to foreign banks.

• The IRDA has asked insurance companies to come up with a standard procedure in charging premium allocation and premium administration charges during the first five years of the policy contract. According to the insurance regulator, charges should be levied in an orderly manner such that the difference between the maximum and the minimum charges shall not vary by more than 1.5 times, i.e., if the charge in the fifth year is 15% then the charge in the first year cannot exceed 10%.

• The IRDA clarified that the top-up premiums shall be based on the age at which the top-up is made, instead of the age at entry. Moreover they have also said that top-up premium will attract a lock-in period (5 years) clause. Policyholders will not be allowed to top-up the premium during the last five years of the term and alter the contractual premium payable during the policy term.