News: Indian Singapore-type realty funds norms soon

(DNA 24/06/2006) Mumbai - The Securities and Exchange Board of India (Sebi) is expected to put out guidelines for Real Estate Investment Trusts (REITS), drawn on the lines of those in Singapore, early next week. The entry of mutual funds (MFs) into the real estate arena is expected to soften the rocketing asset prices in Indian metros.

It is expected to overpower the land lobbies to some extent and help strike a fair value for assets through an organised demand-supply balance. "REITS will increase supply of land and liquidity for investors. More projects will be funded, market volatility will come down due to transparency and there will be efficient flow of information. In short, there will be an all-round improvement in the real estate market," said Shahzaad Dalal, vice-chairman and managing director of IL&FS Investment Managers.

REITS would offer a steady and decent income to small investors, who, till now, were deprived of this opportunity because of the huge fund requirements. REITS would distribute 90% of their gains as dividends, mostly arising from rental income and some from capital gains.

Real estate is a relatively illiquid asset and most of the funds in this sector would be closed-ended. Since closed-ended, these funds would be listed and traded on the exchanges to provide liquidity to investors.

However, experts feel that, in the initial stages, real estate funds in India will not be given permission to invest in assets abroad.

When a real estate fund makes a purchase, the fund manager would call for a payment from the investor. This is called the acquisition fee, which would be a percentage of the deal size. This acquisition fee could prompt the manager to churn his portfolio. Hence, the regulator may cap it.

REITS investing in uncompleted property or taking up property for development stand the risk of below-expected realisations from these investments and, hence, they may be required to keep such assets at very low levels, say, at 10-15%.

Unlike MFs, which can borrow only on redemption pressures, REITS would be allowed to borrow for funding their investments.

But, a highly leveraged status could be similar to the highly leveraged Indian equity market, which drastically falls on across-the-board selling, triggered by margin pressures. If REITS run high on credit, any change in interest rate requirements would compel them to liquidate assets.

This would result in broad-based selling and pull down asset prices drastically.

Hence, the regulator may cap the credit limit at, say 50% of the asset value. Credit rating may also be a crucial element for funds in need of money, since those without a credit rating would receive lesser money. However, funds without a credit rating would be able get some loan, but at a lower level, of say 35% of the asset value.