Demand fundamentals support mortgage asset quality

04 Feb 2006

1
Executive Summary
Steep price increases of residential properties in select pockets in the top six cities in India have created fears of a price bubble, with possible consequences for home lenders' asset quality. CRISIL's analysis indicates that the likelihood of a widespread slump in property prices is small, and that the impact of such a slump on mortgage portfolios' asset quality will be minimal.

International experience of home prices reveals that most rallies in home prices end in soft landings rather than abrupt drops. A sharp drop in home prices is usually a result of an industrial recession, followed by a population exodus from the area; such phenomena are therefore usually localised in their impact. CRISIL believes that most of the current demand for residential properties arises from genuine demand from buyers; this demand is driven by the increasing affordability of residential property over the last decade. Further, the top six cities are home to heightened economic activity, which is expected to continue in the medium term. Hence the international experience of soft landings seems more likely to occur in these cities rather than an abrupt drop.

CRISIL's analysis further shows that even a 30 per cent drop in property prices in the top six cities in India, which account for 40 per cent of the incremental disbursements of key players, will not have a materially adverse impact on the profitability and capitalisation levels of the system. CRISIL calculates that a drop of 30 per cent in home prices in these cities will result in losses only to the extent of 0.64 per cent of the aggregate portfolio, an impact that the system can easily absorb.

Real estate prices boom in the six major cities of India
Residential property accounts for 80 per cent of the real estate market in India in terms of volumes, and has been growing at 30-35 per cent annually . The real estate markets in Mumbai, northern capital region (NCR), Bangalore, Chennai, Ahmedabad, and Hyderabad constitute around 40 per cent of the Indian residential property market. In the last three to four years, prices of residential properties in select pockets in these cities have escalated. This increase has been particularly sharp in the last 18 months, ranging between 60 to 90 per cent in some areas. For instance, property prices in the second half of 2005 in Mumbai almost match the levels reached during the boom of 1994-95 (see graph below for the Mumbai price index ).

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