JP Morgan’s Pick in Real Estate

Property prices, especially in the residential segment, are fast approaching peak levels, and in some markets such as Mumbai, they are already above previous highs. Correspondingly, FY10 has been the best year both in terms of pricing and volumes for a number of developers across markets. However, stock prices have not reflected this, with the BSE Realty Index still at Oct-08 (Lehman) levels and 60% below the peak, vs Nifty at 15% off its high.

Revenues and earnings for most property developers for FY10E are still 55-75% below the peak levels achieved in FY08. Over the next two years, we are likely to see sharply improving earnings performance, as the impact of a disastrous FY09 progressively moves out of P&L (given percentage completion accounting) and business stabilizes based on bookings done over FY10/11. Risks on the policy front after the initial rate increases should be mitigated given improving income growth.

And the trends in various segments of Realty are – Residential – Back to highs, Office – Absorption levels have started improving and cap rates are trending downwards, however supply overhang remains given an adverse demand supply gap and finally, Retail rents to remain under pressure despite improving retailer sentiment.

JP Morgan is OVERWEIGHT on DLF, Unitech and Sobha with target prices of Rs 330, Rs 300 and Rs 80 respectively.