Proposed monetary policy changes to negatively impact real estate sector:: Edelweiss

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Event: The Reserve Bank of India (RBI) in its second quarter Monetary Policy Review dated November 2, 2010, has proposed the introduction of following key changes in respect of housing loans given by commercial banks:

• The loan-to-value (LTV) ratio in respect of housing loans should not exceed 80%.

• The risk weight for residential housing loans of INR 7.5 mn and above (irrespective of the LTV ratio) will be increased to 125% from 100%.

• The RBI has raised concerns on ‘teaser rate’ housing loans as it is of the view that many banks at the time of initial loan appraisal do not take into account the borrower’s repaying capacity at normal lending rates. Hence, the central bank has proposed to increase the standard asset provisioning by commercial banks for all such loans to 2%.

Impact: In our view, the proposed changes are a reflection of RBI’s increasing concern on rising asset prices in India (particularly in tier I cities such as Mumbai and Gurgaon) and are negative for the domestic real estate sector. We summarize our views below:

• Purchasing power for high ticket size houses reduces: LTV ratio being capped at 80% effectively reduces the purchasing power of a home buyer with respect to homes with a ticket size in excess of INR 5 mn and above— essentially the premium segment. With a home buyer having to cough up additional 5-10% equity for buying a house, he may have to delay his purchase decision, leading to a fall in incremental sale volumes.

• Increased risk provisioning to make housing loans more expensive: According to our banking analysts, the proposed increase in risk provisioning for high ticket size loans and ‘teaser rate’ loans may lead to a ~50bps increase in housing loan rates, which will directly impact affordability.

• 10/90 scheme at risk: In the face of rising residential prices, many developers across the country are offering a 10/90 scheme wherein the home buyer pays ~10% upfront and the balance 90% on possession. With LTV capped at 80%, such schemes are at risk of being discontinued.

• Companies impacted: In our coverage universe, we believe companies like DLF (BUY), Orbit Corporation (BUY) and Sobha Developers (HOLD) which focus primarily on the premium housing segment may be impacted negatively in terms of volumes. Going forward, a key monitorable will be developers’ response to the proposed changes in terms of product pricing, ticket size, and incentives offered to buyers.