FEATURE: Pouncing tiger, cautious dragon

When comparing the two largest emerging markets of Asia, few question that China is miles ahead of India in terms of its real estate. While real estate fundraising in China hit a five-year high, India’s volatility has made investors cautious. Many investors have ceased to regard China as an emerging market at all, while India’s credit rating has been downgraded to BBB- by Standard & Poor’s.
In one crucial aspect, however, that pattern does not hold: REIT regulation. Both countries have been mulling a domestic REIT framework since before the financial crisis. However, as rumors of China’s ‘internal REIT draft’ came to nothing, the Securities and Exchange Board of India (SEBI) was not only able to release draft regulations for public comment in October but already has the regulations in their ‘final form’, according to Asheesh Mohta, principal at The Blackstone Group in India. 
In theory at least, professionals such as Nick Crockett, executive director at CBRE Capital Partners, believe a REIT market should start India down the right path, even if it does have a long way to go. 
The Chinese landscape 
Unofficially, REITs have been on the table for China since at least 2008. Indeed, there have been media reports of research teams sent abroad, lobbying from lawyers and advice from investors. Still, to date, there is nothing to show but feasibility studies and draft regulations for internal circulation only.
Real estate investors have not given up the campaign, but the China Securities Regulatory Commission (CSRC) only asks for advice on and off. Goodwin Gaw, chairman and managing principal of Gaw Capital Partners, admits it has been a few years since his firm spoke to the government; and Joel Rothstein, a Beijing-based partner at law firm Paul Hastings, adds he has heard nothing since June. Indeed, Oliver Treneman, head of China at logistics fund manager Redwood Group, surmises that REIT regulations in China may not be ironed out for another three years.
The benefit for investors would be most obvious in circumventing onshore capital gains taxes, which Treneman says can be “crushing” – sometimes as high as 40 percent. However, a working REIT system also could have more grassroots benefits for the overheated housing market. 
Since Chinese typically see real estate as a secure wealth stash, limited supply has kept prices high despite cooling measures. Gaw believes a REIT framework “would be a great alternative investment option, so people don’t have to park their money in an apartment.” 
Barriers to progress 
Unfortunately, the greatest barrier to establishing a REIT framework in China is the government itself. Gaw explains that many officials fear too much liquidity from REITs could inflate prices and thus keep putting REITs on the backburner until a more “convenient” time.
“The introduction of REITs would just be adding another funding mechanism to the mix at a time when China is concerned about factors fueling liquidity and the need to regulate and monitor the real estate market,” Rothstein says. “China does not yet appear to be fully ready to let go.”
Still, making up for government hesitance is investor creativity, Rothstein notes. In the absence of REITs, investors invent other trust-like mechanisms to list their portfolios, often alongside local governments, making the need for a REIT framework less pressing.


“Some of the most obvious vehicles for listing are government-related – and many already are listed,” Treneman explains. “So why bother taking a portfolio already listed and relist it under a different system?” 
Furthermore, since all land in China ultimately is held by the state anyway, putting together a REIT system that is attractive to investors without compromising that ownership also could be tricky. 
A sprint to the finish 
On the other hand, India’s progress with its REIT framework has left China in the dust. Much like China, India was batting the idea of REIT regulation around in 2007 before abandoning the effort post-Lehman Brothers, according to Mohta. However, in the span of 2013, SEBI completed draft regulation, incorporated revisions based on public comment and might even pass the framework into law as early as this quarter.
The key was the united front that private real estate investors presented to the Indian government. Kotak Realty Fund chief executive Subramanian Sriniwasan says he and other investors pointed to the currency crisis and investors listing in Singapore to trigger the change.
“Nothing motivates a government more than telling them that another country is eating their lunch,” Sriniwasan says. While India has only recently built up enough large portfolios of institutional quality for a REIT framework to make sense, those portfolios are ready to be monetized. Indeed, many developers and investors “could easily take their asset [portfolios] to market very quickly once legislation is firmed up,” Mohta adds.
India’s institutional investors, which are largely limited to public markets by regulation, are hungry for long-term yielding assets but have no third-party mechanism for participating in real estate – a gap Sriniwasan is confident REITs will fill. For a country used to strata sale exits, Mohta believes that just the potential of exiting to a REIT should encourage institutional management and upkeep. Blackstone itself is holding out for REITs to exit its large Indian portfolios, even though it could list the assets in Singapore.
The last hurdle 
Even if regulations are passed tomorrow, REITs in India are missing one crucial element: the tax clause. “Without the tax clause, the framework doesn’t have teeth,” Mohta says. A tax clause giving REITs beneficial status can only be passed by Parliament, however. With India in election mode, Mohta doesn’t foresee that happening until the second half of 2014.
Once the framework gets up and running, the first few REITs in market will need to be large and diversified or it could scare investors away from the sector, according to Mohta. “The first ones need to be credible, with quality sponsors and assets, such that investors don’t lose faith in the product,” he says. 
Having been through the development of India’s public markets, Sriniwasan is confident motivated investment bankers will see REITs off the ground. He thinks the first REIT could come as early as November.
Mohta expects investor education also may be a headache, as REITs will require the real estate market to be much more transparent than it is used to. Still, as long as the first few REITs are diversified and do well, investors can learn how these platforms work. 
Playing catch-up 
Without question, a REIT market is encouraging news for India’s investors. However, no one expects the land of the Bengal tiger to catch up with the Chinese dragon anytime soon. China’s infrastructure is far superior, its tenant and investor markets are much deeper and, in general, China is less opaque, CBRE’s Crockett sums up. Even Sriniwasan admits that investors take entirely different risks when investing in China than in India.
Still, it is ironic that the very political system of strict control that pushed China ahead of India is now holding it back from the next step. “A vibrant REIT market requires a legal framework plus a robust and transparent capital market, which China does not have,” Rothstein explains. “China currently is trying to crack down on many [informal] funding structures [in] shadow banking.”
Once REITs are established in India, however, Sriniwasan expects private investors will be more encouraged to build. “Right now, there is very little opportunity for exits, so why would you take development risk in real estate?” he asks.
Now that the government has made up its mind, Sriniwasan is confident India will develop a vibrant REIT market to encourage private real estate. Indeed, he speculates that, with the development that REITs may encourage, India might be able to grow out of the ‘developing country’ category – as China did – in another 10 years.