Tuesday, January 6, 2009

Everyone forgot the risks

One common complaint I am hearing these days is that banks are not reducing the home loan rates even if there is sufficient liquidity in the market . People are complaining that banks have their cakes and are eating them too. A normal borrower like you and me are trapped by all these techniques applied by the banks .

My response is ' easy to blame the banks and everyone other than yourself'.

I have my reasons to believe in the above statement .

1. We all fell for hype. In the national dailies , in 2008 , there were a plenty of advertisement by real estate builder promising us heaven while bankers were eager to put the ladder on. Money was easy and hence rates were down . It was much easier to factor all the cost into our salary. There was not a single reason not to take a loan. Add to the cacophony , we had people whom we knew were profiting from the bubble of the real estate and it was hard imagining why we were not profiting

2. We all want to become rich before we die: That is a fair assumption . It is very difficult to every day go to office, listen to abusive boss and work for a paltry salary. So there must be some easy way. Now since there was so much hype around , we were fooled into thinking that it is our road to riches. According to one news item I read in 'financial express' , most of the rich become rich not because they are brilliant or master strategists but because they take excessive leverage. And if their business venture becomes successful, they are hailed in the eyes of the world. This story raises an interesting point that given similar circumstances, is it possible that cautious general public would also take excessive leverage to get rich even though there is no fallback when something goes wrong. In my observation , yes they can if they could. I have heard and read a number of stories where people have gone into excessive leverage to invest in stocks or real estate before they went bust.

3. We forgot about the risks : There are a plenty of risk when you make a business investment. Even a safe instrument called fixed deposit have strong risk from high inflation and busting of bank. If tomorrow the bank goes down a la Lehman , then it will take all our deposit with us . A risky investment is stock market , where it is not even possible to count the number of risks you can see . A real estate investment is considered a risk free investment as at least you have the land / flat / house with you even though the value goes down.

In my opinion that is the biggest mistake our Indian masses do . A real estate investment that is based on good location of the property can fetch handsome rewards. Other ways that real estate can work to our advantage is the fact that it is a commercial / residential development that provides us with a constant revenue stream in the form of a rent. There is some tax benefit that we derive out of our investment . However risks are plenty.

  • There could be oversupply of the real estate leading to a drastic fall
  • The whole area is now not considered suitable for investment
  • The property taxes have made running businesses difficult
  • The inflation is rising too fast and it is making maintenance and repair beyond reach and many .
  • The loan rates have climbed too high mostly out of our reach.

I am not a real estate expert but all I can say is that even this asset class has its set of risks and the public either failed to see them or they were misled into believing that it is not risky at all.

4. We forgot to read the fine print : You assume that you are customer of the bank and the bank would follow generally good practice .You assume many things on bank's behalf. But on the other side, your bank is not assuming everything. They are making sure that they leave nothing to chance while the only risk they bear is when the price of property goes below the loan amount( they would squeeze you on that ) , floating rate gets higher ( they would squeeze you on this too), you default for a month ( be prepared for onslaught). Obviously , they have done their homework while you in your dreams have even not cared to read what they have written in the document that you are going to sign . In this case , all mistake is yours .

5. Our experiences fail to teach us : My bank raised the credit card rate of interest on the account of a flimsy reason that many customers of theirs are defaulting . It means that they penalized me for the fault of others . It never occurred to them that I have been paying my dues on time and there is absolutely no risk doing business with me .

But this experience taught me one thing "Bankers are not our friends, they do not like us , they do not love us ". They are here only because they need money to run their business and they deal with us because we help them make money. I reduced my credit card balance to zero, immediately dropped my plans of unnecessary expenditure and used cash for most of my transactions . This has helped me to use the facility provided ( a credit card ) without falling into the trap they want me to get into. I have my credit limit to 50,000 and never exceeds it even though it might mean giving up on things I desire badly.

Now back to general public. I feel that everyone had one or the other kind of experience with the banks. But that did not deter people from taking huge loans . The higher the loan , the higher the risk of default . A bank is where you keep money so that it does not get stolen while you may take a loan based on your capacity and risk appetite. I do not think a bank is useful to me more than that.

Now if you are trapped in such a scene, how would you come out of it .

1. If you are over leveraged, try to reduce the debt either by borrowing from friends and family . Remember , they understand you better than any other smiling bank salesman
2. Cut on your credit card expenses because they take a lot of money to repay
3. Do not fall for marketing gimmicks of the banks and industry. One of my way to avoid my mind getting fooled by the marketing is to add one line 'Now give me your money' after every advertisement . That would be a reality check.
4. Do not buy a thing if you don't have to buy it . Do not buy if everyone says it is good . If everyone knows about it then probably it is already overpriced
5. Learn to read between the lines especially in agreements . If you are not sure take help from someone who knows about it .
6. Don't let your emotions run through . Look for the risks , hidden agendas, ambiguous lines. Ask if you don't understand.
7. In Hindi we say 'Bhag kar kahi nahin jaa raha hain ' . You cannot turn everything into a winning opportunity. There are some lost calls too . Just wait and think before you decide to act.
7. Last but not the least . Avoid taking loan at all cost . Try building assets instead for e.g. . stocks which appreciate with time . They would provide you more stability that leverage.

I hope all these make sense to the public and people become more conscious before they take a decision.

1 comment:

  1. very good advice ,
    Not only an excellent diagnosis but also areasonable prescription mixed with right amount of commonsense....

    Illuminor

    ReplyDelete