Previous

Page - 9

That's a time-consuming exercise which is out of the reach of many smaller investors. Property investment requires a big risk appetite, a lot of due diligence and also attracts a tax known as "stamp duty" which ranges in most Indian cities between 10 and 15 %.
States such as West Bengal, Kerala and Bihar levy it as high as 20%. Some states even have a double stamp incidence, first on land and then on its development. (The stamp duty levied in developed countries like Singapore and Europe is about 1-2%) Once an investor has established a portfolio of assets, it's similarly difficult to shift exposures from one sector of the market to another.

Property derivatives can allow investors to increase/reduce exposure to property market without incurring huge transaction costs, hedge current position, as well as change portfolio composition without having to buy or sell the physical asset.

For banks, property assets figure mostly off-balance sheet as collateral for loans. The purpose of the collateral is to limit downside losses if the borrower defaults on the loan. Consequently, banks are exposed to property market risk. While several types of credit derivatives (such as credit default swaps) allow banks to hedge their credit risk, the market is not yet sufficiently wide enough to allow them to hedge credit risk of their entire portfolio of claims.

Due to the heterogeneous nature of real estate individual product offerings are almost impossible. Using index futures and index options, investors and portfolio managers can hedge themselves against the risk of a downturn in the market when they should so desire.

Appendices

* Contributed by: -
Rahul Abrol & Rahul Gulati,
MBA - IInd Year,
Institute of Management Technology, Ghaziabad.