REIT's - Interesting Investment Avenue for Retail Investors

Deep Kantawala, ICS Corporate Advisors | Mumbai | November 19, 2014 15:26 IST

REIT's will provide developers with an avenue to monetize completed assets and to raise capital. This will infuse liquidity in the system which will not only give a fillip to development of more real estate and infrastructure, but it should also help in bringing cost and consequently prices down.

Earlier this year the Government of India announced REIT regulations, which were much awaited for many years. This is a very welcome step for the real estate/ infrastructure industry, which has been constrained due to limitation on the avenues to raise capital.  REIT's will provide developers with an avenue to monetize completed assets and to raise capital. This will infuse liquidity in the system which will not only give a fillip to development of more real estate and infrastructure, but it should also help in bringing cost and consequently prices down.
 
While introduction of REIT's bode well for the industry, we believe this will also be good for retail investors. They now will have options to invest and own portions of large annuity yield bearing assets- shopping malls, hotels, office buildings, something which was otherwise out of reach for most investors. As we know, the current avenues available to a normal retail investor are quite limited- either invest in low-risk low-return product such as a bank deposit or tax-free bonds, or high-risk potentially high return product like listed equity. The in-between option is to invest in mutual funds schemes.
 
 
REIT's on the other hand are a more attractive investment option from the investor's point of view:
 
  • Since these assets are complete and trading, there is no development risk.  The investor has clear line-of-sight as to where his monies are being deployed.
  • The investor is reasonably assured of the annuity income as these assets would have long signed leases with its tenants.
  • REIT's will provide investors access to a diversified and quality portfolio as compared to single asset exposure.
  • Since the units will be listed, the investor will be able to liquidate the investment in REIT's within a reasonable time-frame.
  • REIT's will save the smaller investors from the hassles of due diligence, paper-work and multiple taxes.
  • Lastly, but most importantly, real estate and REIT's provides reasonable hedge on inflation and there is potential for capital appreciation over the years.
 
In addition to this, real estate is anyway a fancied asset class for Indian investors. They are willing to invest in residential apartments which provide around 3% p.a. rental yields on an average, when the bank deposit assures a return of 7-8% p.a. This because there is a belief that over the long term these investments will give good capital appreciation and are relatively safe investment options.
 
In contrast, we would tend to believe that REIT's will be priced such that the effective yield will be around 10% i.e. few basis points over the bank interest rate. As mentioned earlier, apart from steady income, REIT's still offer a potential avenue for capital growth over the years- either due to upward revision of rental income or yield compression.
 
REIT's have the potential to attract significant monies currently parked in traditional financial instruments. To give some perspective, US is the most developed REIT's market in the world with a market cap of US$ 620 billion. About 1/3rd of this is held by the US pension funds (source: Towers Watson and Bloomberg). In India, our retirement fund corpus is about US$ 200 billion (source: CII - EY Report). If the government permits and encourages our pension funds and insurance companies to invest even 10% in REIT's, the allocation from this segment alone would be as much as US$ 20bn, not counting the foreign inflows and the investments from retail investors given India's 33% savings rate.
 
To really achieve the benefits from REIT's, there are few more critical steps that need to be taken by the Government of India, particularly-
 
  • Allow and encourage Indian pension funds and insurance companies to invest in such securities.
  • Secure active participation from foreign investors and clarify guidelines for FDI in REIT's.
  • There should be parity between resident and non-resident investors in terms of tax treatment- 5% tax for non-resident investors on income in the form of interest should also be applicable to resident investors.
  • Dividend distributed by an SPV to the REIT should be exempted from DDT at the SPV level.
  • Lastly since this is a new product, it is important to educate the investors how to evaluate a REIT performance, how to evaluate the assets owned by a REIT and how to evaluate the performance of a REIT manager, etc. Further from a transparency perspective, and have appropriate disclosure requirements in the prospectus of the REIT's.
 

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