Mumbai real estate: The perfect storm is around the corner

Small and mid-level developers will be hit the hardest as the Mumbai real estate market braces for a tough year ahead. (Image: Shutterstock)

The stage is set. The lights are getting ready. The camera is on its way. And action is about to be announced. It is now certain that 2022-23 is going to be a difficult year for Mumbai’s real estate industry. Interest rates are on their way up, the state government has recklessly added a tax of 1 percent on house purchase, stock markets have fallen sharply hurting demand and sentiment, and upcoming supply is at outrageous levels in prime micro-markets.

How did we get here? In one way it was to be expected after the sharp rebound in the city since the stamp duty cut announced in 2020. Pent-up demand and future demand got crunched in a short period of time as the entire ecosystem threw its weight behind a recovery in the housing market.

That is now starting to unravel, and doing so rapidly. At a theoretical level, a marginal change in interest rates should not be a deal-breaker. But it does hurt sentiment, especially if the future direction is headed upwards. At a practical level, it reduces the loan size eligibility for a home purchase that is often stretched to the maximum by a home buyer. Stamp duty levels have risen from 2-6 percent, increasing the cost of home purchase. In some cases, home prices have also risen in an environment where wealth creation has moderated. Simply put: Affordability and sentiment are both lower than they have been in the rebound phase of the last 18 months.

The biggest damage to the majority of the industry will, however, come from a well-intentioned policy—a policy that has driven upcoming supply to record levels.

Here’s how: The municipal corporation earns money by selling an intangible called Floor Space Index or FSI—a key cost for a builder. FSI determines the amount of area a builder can build on a particular plot. In a bid to stimulate the industry the municipal corporation threw in a sweetener. It provided a steep discount for FSI to developers until December 31, 2021. That triggered an unprecedented and unexpected rush from builders (active and previously passive) who scrambled to get their new projects approved under the discounted scheme.

In 2021, the approved supply was 4-5x of a normal year. Redevelopment activity shot up through the roof with certain micro-markets seeing more activity in 2021 than in the whole of the preceding decade.

In the initial stages last year, I got the sense that the industry was unperturbed. The view was that supply was not large and strong demand would easily absorb it. Later, the industry got cautious but believed that a significant chunk of the approved supply would never hit the market.

Now, it's clear that the assumption was not entirely correct. Many small and mid-level developers have managed to at least begin the race with multiple projects.

What happens now? Different players will have different journeys. Barring the top players, everyone else will feel threatened. The weak hands, several of whom re-entered the market and have embarked on multiple projects, primarily supported with debt, will be in the stickiest territory. The mid-level players without a sound track record will be challenged.

What are the options on the table then? In an era prior to RERA, the verdict would have been easy. Prices would remain elevated, deals would not happen and builders would perpetually sulk over low profitability. Projects would thereafter get stalled and remain that way. In today’s era, I reckon it will not be to the same degree. The losers will remain losers but their proportion of the overall market has fallen meaningfully. Meanwhile, regulatory and market pressures have ensured that serious players are now moving dynamically to the market.

Risks, however, remain. A vast number of mid-level and small projects may have launched and commenced activity. But they will need strong sales at the vulnerable under-construction stage to eventually complete the project. Ticket size will matter greatly.

That brings me to the forecast I mentioned in March 2022 of an imminent price-war as players move to gain sales velocity amidst the pending flurry of launches. Muted aggression that has dominated the year so far will slowly give way to discreet aggression with good offers being given to customers — under the radar, of course. Harshul Savla of M Realty, a mid-size developer, offers a solution and warning by saying that players need to be “Fast and Furious: Build fast and sell furiously, or else the endangered species of small and mid-level developers run the risk of going extinct.”

The perfect storm is around the corner. The industry should look to find shelter before it strikes.