Real estate investments: A shield against inflation

In December 2023, India experienced a notable upswing in retail inflation, reaching 5.96%. This exceeds the Reserve Bank of India’s upper tolerance level set at 4% for medium-term targets. With the global inflation rate fluctuating at a higher rate, now more than ever, it is increasingly important to categorise finances, savings, and investments strategically, aligning them with long-term, mid-term, and short-term goals to effectively hedge against inflation.

Over time, the erosion caused by inflation diminishes the purchasing power of money, thereby reducing the real value of income. Inflation hedging is a financial strategy involving investing in assets that tend to increase in value at a similar rate to inflation or faster.

In the current investment landscape, there is a range of investment instruments like stocks, physical gold, gold ETFs commodities, and floating-rate bonds amongst others that one can invest in to hedge against inflation. Although each of these assets comes with its pros and cons, real estate is widely considered to be a historically proven hedge against inflation. Precisely, global statistics validate that since 1980, commercial real estate as an asset class has consistently outperformed other asset classes in 6 out of 7 inflationary periods with its ability to maintain value and overall performance under inflation pressure.

During inflation, the cost of building new properties increases significantly. With fewer options available, existing properties gain prominence resulting in higher value.  From an investment perspective, this increases the chances for steep rentals and better liquidation.

On the other side, the demand for rental properties increases when inflation is high as higher interest rates make it more expensive to own a new property. Let’s take an example of office spaces, the most-demanded commercial real estate asset class currently, tenanted to MNCs. Lease agreements are typically structured to include clauses for rental increments at regular intervals, based on the property’s demand and supply in the market.  To ensure the yields outpace the inflation rate for positive returns, these agreements have a lock-in period for the tenant ranging from 3 years to 5 years, during which the valuation of the property will see an upward trend as a result of annual rental hikes.

Unfortunately, this knowledge remains only theoretical for retail investors as they battle hindrances that make such commercial real estate properties inaccessible to them. Until now, only institutional investors could afford the large ticket size and would have the awareness about the potential markets to watch out for. However, with the advent of new-age, alternative real estate investment options, retail and sophisticated investors can work on their inflation-protection portfolio strategies with fractional ownership of commercial real estate.

With this concept, investors can become fractional owners of a commercial property by investing a fraction of the total asset value along with multiple like-minded investors to share ownership. This arrangement allows each investor, holding a proportional share, to reap rental yields to the tune of 7% to 9% which are distributed based on the ownership percentage, and make profits through capital appreciation at the time of exit, achieving a total investment IRR of up to 16%. By gaining access to high-potential commercial properties at low ticket sizes, forward-thinking investors can leverage this strategic opportunity to diversify their portfolios. This approach can help safeguard their wealth against the erosive effects of inflation while ensuring a secure and stable income stream, along with the potential growth offered by India’s growing commercial real estate market.

(The writer is Founder & CEO
of Assetmonk)