Personal Finance

Why homes in small cities may be a bigger risk

Meera Siva | Updated on December 03, 2019 Published on December 03, 2019

Tier-2/3 city properties are being promoted; but risks may not outweigh returns

When simple ideas stop giving returns, esoteric ones that promise high returns with no major risk are floated. One such that is making the rounds in property investments in smaller towns.

The property market is in doldrums. Buying in the top seven cities has dipped 18 per cent year-on-year in the September 2019 quarter and prices have been stagnant, reveal data from ANAROCK. So, tier-2 and -3 cities are being promoted as a good investment choice. But before you buy into the hype and information shown to promote this case, it will be good to understand the risks.

Small is beautiful

Data from ANAROCK’s Consumer Sentiment Survey in H1 2019 showed that over a quarter of the investors prefer tier-2 and -3 cities such as Ahmedabad, Jaipur, Nashik, Chandigarh and Kochi.

The key reason for purchasing property in smaller cities is the potential for infrastructure development. For example, air travel links to most small cities is improving. Road connectivity, internet availability, metro rail projects, better power and other infrastructure make places away from metros just as suitable for offices and businesses.

Two, the cost of operations — such as rent and salaries — is lower in smaller cities. Some city-dwellers prefer shifting to towns for less pollution and traffic, even with a pay-cut. These locations may also attract incentives from State governments for those willing to set up operations.

With the availability of a talent pool that sees less churn, more businesses will opt for small cities, spurring employment and raise housing demand there. Already, companies such as HCL are expanding in tier-2 cities such as Madurai, Lucknow, Nagpur and Vijayawada. Also, MNCs are setting up global in-house centres in cities such as Vadodara, Ahmedabad and Coimbatore.

Three, many senior citizens prefer non-metros, which are seen to offer a better quality of life, availability of help and lower cost of living. There may also be people migrating from rural locations to smaller cities close by.

Caveat emptor

While the reasons are plausible, you must remember that buying in smaller city is akin to investing in small-cap stocks. It is possible to pick a winner, but there are uncertainties that are not widely talked about.

One, as infrastructure development is the key driver for growth and price appreciation, you need to be sure of the hype factor. Many projects do not come to fruition and it may be good to buy on rumour and sell on news, rather than buy after the project is announced. This is not easy for an outsider. Two, the markets in these cities are shallow, with not much property available. So, when you try to buy, prices may shoot up. And selling may take longer as there may not be enough buyers. You must account for lower returns due to the risks of illiquidity.

Three, while demand factors can be assessed based on employment opportunities coming up, you must keep a close eye on the supply. Sample this: the population of Mumbai is about 24 million and it witnessed 33,000 new housing launches in 2018. Nagpur has about a tenth of the population — 2.4 million. So, the launch of even 3,000 units can flood the market and lower prices. Four, anecdotes from the past show that the theory of ‘successful’ smaller cities has not played out. For example, even a decade ago, Mysuru was promoted as a go-to place as Bengaluru was crowded. But metros continue to expand and smaller cities have not been able to attract the same level of growth. Bigger brand developers have not been venturing into smaller cities due to these risks. It may not be too different this time.

Prudent path

You may still find that there are some cities where you find a good investment case. Still, make your selection after research and assessing the probability of development. You must also pick the right micro-market and property type. For example, a new biotechnology park may attract younger people who may prefer a smaller apartment; buying an independent home or plot may not see similar buyer interest.

Be sure to assess the quality of developers before buying. Due diligence of property titles and developers is important to avoid legal issues and delays.

You may also want to consider the property management aspects. Choose a location that is closer to where you live rather than something in an unknown place. That makes keeping an eye on the developments and taking decision that much easier.

The author is an independent financial consultant

Published on December 03, 2019
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