Real estate is one of the most sought-after asset classes globally. In Bangladesh, the case is no different. The perception of a near certain outsized return on a piece of land or house -- a tangible asset -- over a long-time horizon makes real estate very appealing to the average person.
However, the reality is not as straightforward as the perception of cashing out a large profit from selling your property after some years.
This illusion of nearly guaranteed high returns is even more of a phenomenon in Bangladesh, to the extent that most people know real estate as the only worthwhile investment. The absence of a public housing price index means regular house price changes are not tracked and go unnoticed. But if all house purchases in Bangladesh were indexed and routinely updated, it is possible we would've observed that real estate, like other asset classes, experiences volatility.
However, using a flat price index from a Bangladesh Bank report we can portray the volatility aspect of real estate. To begin with, let's take a look at the index to set the context.
At first glance at this index, which is based on per sq ft flat price in Dhaka from 1998 to 2020, you could get an idea of the volatile nature of real estate in Dhaka. Even though the index is specific to Dhaka, the fluctuation of prices is broadly representative of real estate's volatile nature everywhere to varying degrees.
The above is a representation of the total return on flats in Dhaka at different points in time since 2000. If someone bought a flat in 2000 and sold it in 2003, they barely made any gains, as seen in the chart. Whereas, if the person hadn't sold it until 2009, they would've made a 500% gain on their flat (excluding rents). Typical of volatility, the person would've made a little over 100% in gains compared to the big 500% gain in 2009 if they had sold it just three years later in 2012. As perfectly representative of unexpected shifts in flat prices, the person in this hypothetical example would've made almost the same gain as in 2003, which is almost stagnant, if they had sold their flat in 2020 after holding it for 20 years.
Holding a property during the periods 2000-2009 and 2000-2020, one would've made a little over 20% return per year and, in contrast to this sizeable return, almost zero return per year respectively. And for the post-2009 periods as shown in the above chart, all the returns on a hypothetical property per year would've been in the negative. This means you would've been losing money each year if you were holding any property during these periods.
People in Bangladesh would've been able to observe this volatility in the housing market if it were marked to market and everyone was able to observe the real-time relation between supply and demand in real estate. As the general homeowner here doesn't have a way to track movements in this market, they can't know the change in the value of their property until and unless they put it on sale. Even then, reaching a fair value for both the homeowner and the buyer is difficult since they don't have enough publicly available data to compare prices. Add to this the concept of the time value of money, and you'll see that any big gain observed over a long-time horizon is discounted to a relatively smaller gain, representing a marginal change in the worst-case scenario.
This issue in real estate in Bangladesh is comparable to the case of private equity, an alternative asset class, worldwide, where assets are not marked to market either. The same issue in private equity has led to inaccurate valuations of some private companies that were only realized much later, as there isn't any reliable way to monitor live changes in their value, unlike listed or public companies.
However, this doesn't negate the fact that real estate and private equity are attractive asset classes too that can generate outsized gains. It only shows an issue of access to data that prevents people from getting the full picture of the performance of these two asset classes.
Volatility, to varying degrees, exists for all asset classes. On the other hand, the higher the volatility or risk, the bigger the returns could be. This trade-off of unobservable volatility might result in large returns on investments, especially in private equity's case, but they are not guaranteed as with all types of asset classes.
So how do we then deal with this issue in real estate, or even private equity, for that matter, in Bangladesh? The solution is the same anywhere in the world -- diversification. The way to navigate this issue is to diversify your investments among multiple asset classes, if not all, and adjust your allocation between the asset classes depending on the market and economic situation.
One can minimize their risk by, for example, dividing up their total investment into stocks, bonds, real estate, and private equity with smaller allocations for asset classes (in this case, mainly stocks and private equity) with more risk if they have a low-risk appetite.
If one doesn't have the time or expertise, or both, to manage their investments, they could invest with the guidance of an investment professional or opt for passive investment paths such as Mutual Funds for stocks and bonds and, for real estate, REITs (Real Estate Investment Trusts), the real estate equivalent of mutual funds. But investment vehicles such as REITs are not available in Bangladesh yet, which is actually a reason for the absence of house price indices in the country.
Fateen Tahseen Alam is an analyst.
