Taking the illiquid route to achieve financial goals
Don't stay put till the end of the horizon. Start liquidating in tranches at least a year in advance or move to safer instruments
Oct 16, 2013
Source : Business Standard


MUMBAI: Two years earlier, Sham and Sandhya Virkar bought a 400-sq-ft 1-BHK flat in the Badlapur area of the Mumbai suburbs for Rs 21 lakh. They plan to sell it if they require extra funds for their daughter's marriage, which might be seven to eight years away.

Also, the house they presently live in might undergo redevelopment, in which case they can shift to the new one. Once the redevelopment of their present house is over, the Virkars plan to put the new one on rent.

Sham Virkar works with a private company and his wife is with a public sector bank. They have another five to six years for retirement. For this house, the Virkars have taken a housing loan of Rs 11 lakh. Being an employee of a bank helped Sandhya secure a loan at a lower rate, lowering her liability. Add the additional tax benefits on a second home. Interest repayment towards a home loan for a second or let-out property is unlimited, unlike the cap of Rs 1.5 lakh for interest repayment on home loans for a first or self-occupied property.

When to invest?
  • The investment horizon is at least 8-10 years
  • It isn’t part of your core portfolio; forms up to 30 per cent of it
  • Long-term goal is not completely dependent on this investment
  • You understand the instrument and can keep a check on prices
  • You have sufficient funds for emergencies
  • Once closer to the goal, shift to more

Similarly, Siddhesh Bhagwat, 33, recently bought a house in the Thane area of the Mumbai suburbs for Rs 33 lakh. He has a five-year-old son and Bhagwat might liquidate this house for his son's education needs, 12-13 years away. Till then, he plans to let it out and earn an extra rental income. Bhagwat works for a private company and his wife is a home maker. He says real estate prices have been appreciating quite a bit in Thane and he didn't want to miss the opportunity. The Virkar couple have the same reasoning for investing in real estate.

These aren't isolated cases. Investment in real estate has been increasing, especially over the past five years of uncertainty around the equity markets. The BSE's Sensitive Index or Sensex has returned 12 per cent over the past five years. The National Stock Exchange's Nifty has also delivered 11 per cent in this period. In comparison, residential prices rose 121 per cent in Mumbai between 2007 and 2013, according to the National Housing Bank's Residex (NHB Residex). In Badlapur, the prices increased 19 per cent in the same period and by almost 100 per cent in Thane. NHB Residex tracks the movement in prices of residential properties on a quarterly basis since 2007.

The hitch is that real estate is an illiquid asset class. And, most real estate investors have not factored in points such as what to do if prices fall closer to the goal. If realty developers are not able to sell a good part of the inventory this festive season, prices might fall. Additionally, as the market price of properties are often artificial, you might not get the price you look for. Buyers always try to bargain.

There are more of such instruments that investment advisors ask you to steer clear of but people are invested in. Investment advisors advise some for very long-term goals.

Assets which cannot be sold at a desired time at the fair value are categorised as illiquid assets. Kapil Narang, chief operating officer at Ameriprise India Advisory Services, says asset classes by themselves are not illiquid but instruments within an asset class could be. However, the degree of illiquidity could differ. "For example, within debt you might choose to invest in a fixed maturity plan ( FMP) with a three-year lock-in period or a Public Provident Fund (PPF) that doesn't offer liquidity for seven years. Similarly, if you are buying a traditional insurance policy, your money might get locked for 10 to 15 years, while in a unit-linked one (Ulip), the lock-in is five years. Similarly, real estate is not illiquid but the time involved in selling makes it illiquid. Equities are not illiquid but you would need to consider your profit or loss before exiting," Narang explains.

However, there is no harm in planning for very long-term goals through illiquid instruments. If one has sufficient surplus, he or she can buy a commercial or residential property. These will provide rental income, tax benefits, decent price appreciation and diversification to the portfolio, says certified financial planner Pankaj Mathpal.

There are caveats. As no one can afford to make a full downpayment in metro cities, make sure you do not have an ongoing home loan when you take a second one. Or, at least follow one of the two rules of thumb - one, that outgo towards debt repayment does not exceed 40 per cent of your salary and, two, the rental income should help offset at least half the equated monthly instalment burden. Additionally, you should be a regular to the city or town where the property is situated or have trusted people who could keep an eye on it. Importantly, it would help to not invest in real estate on the back of announcements such as that of the Mumbai airport development. Many property developers are not able to sell in and around the Kalyan area in the Mumbai suburbs as there is no further clarity on the airport development. That's why it could help to invest in the city area than the extreme suburbs.

Raghvendra Nath, director of Ladderup Wealth Management, says illiquid instruments should not form more than 25-30 per cent of the total portfolio, provided the core portfolio is kept separate. He recalls having advised a retired client to buy perpetual bonds of Tata Steel and Tata Power. These are not listed and redemption can take five to seven days. "But the gentleman had Rs 1 crore to invest beyond his core portfolio and needed to earn 9.5 per cent to beat inflation. These bonds offered 11 per cent. Besides, he wouldn't have been taxed at 30 per cent, as he was retired," he says.

Similarly, certified financial planner Lovaii Navlakhi says though insurance is not an investment product, at times it can be advised for a child's education needs (child plans). However, the exposure should not be more than eight to 10 per cent of the portfolio and the plan should have a premium waiver clause. This clause does not let the premium burden fall on the child in the event of the death of the parent.

Many buy gold jewellery or subscribe to jewellers' monthly saving schemes for their children's marriage. But, if there is a need for cash, selling to jewellers is the only option; also, jewellers buy back jewellery at a 15-20 per cent discount, at least, to the market price then. And, with saving schemes, you have to compulsorily buy jewellery.

"If investments are for a particular goal, then the horizon is restricted by the goal. If investments are for wealth creation, the minimum investment horizon should be 10 years. A longer term helps average the price fluctuation. But when it comes to illiquid assets, its best to start liquidating your investments early," suggests Achin Goel, head of wealth management and financial planning at Bonanza Portfolio.

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