Should you invest in a tier-2 city property?

Metro cities such as Mumbai, National Capital Region (NCR), Bengaluru and Chennai account for the bulk of property transactions in both residential and commercial space. Larger markets account for three-fourth of all sales in the country. But smaller towns may offer some attractive and niche investment opportunities that differ from what you may get in metros. Investors who are interested in looking beyond big cities must weigh the pros and cons of small town property investments before taking the plunge.

The good
Infrastructure and job growth in smaller towns offer genuine opportunities for investments that many may not be aware of. For example, IT park development in Coimbatore boosted property prices. Likewise creation of industrial corridors may create new pockets of job growth, spurring property demand.

Property ticket sizes also tend to be smaller in tier-2/3 cities. This can make it an attractive choice for many investors who cannot afford to buy a property without a budget in crores. Home prices in prime neighbourhoods such as Banjara Hills in Hyderabad go for Rs 4,000 to 4,500 per sq ft, compared with over Rs 1 crore tag for a home that is under 1,000 sq ft and in an ok locality in Chennai.

Some locations may also offer niche prospects typically not available in cities. For example, a home in a hill-station town or a tourist spot such as Mysore or Goa may offer good income and price growth potential, driven by factors that differ from what helps price appreciation of a home in the suburb. These may be of interest to some investors and may offer good potential for savvy investors.

The bad
That said, the property markets in smaller towns are, well, small! There are not enough transactions and the market depth is low. As a result, liquidity may be poor. Prices may rise fast on low volume and when things turn for the worse, selling may turn out to be a challenge.

Job growth, which drives property prices, may not happen steadily in smaller cities. So the price appreciation or demand growth that one hoped for, may not pan out. This coupled with supply additions from larger projects that were possibly launched add to inventory that may create price pressure. Unlike large cities, even a few mid-sized projects with only add a few hundred homes each may lead to excess supply, as local demand tends to be typically low.

The choice
Small town investments offer different risk-reward profiles and may yield results in short or long term horizon. For example, currently prices in regions such as NCR are on a severe downtrend; but many smaller towns such as Vizag and Indore are witnessing robust market size growth. Sales volume in 19 tier-2 cities fell by 17 per cent in the last two years, half the fall witnessed in the top 14 tier-1 cities (32 per cent fall), as per a report from PropTiger.

When the property market was hot, there was a lot of investor interest in smaller towns. But when the tide turned, small town investors faced more pain than those who bet on metros. The risks tend to be higher as many towns rely on one or two sectors to drive demand. For instance, the change in oil fortunes in the middle-east impacts the property market in towns such as Kochi where there is a lot of money coming in from abroad. So you must assess the specific risk in a region before investing.

If you are from a small town area, you must be extra cautious to not let familiarity bias cloud your decision. You must separate the emotional attachment aspects from investment potential and assess the opportunity objectively. Buy a property only if it meets your goals of returns and time horizon of investment. Do not overlook risks since you have a comfort factors.

Small town properties can be an interesting opportunity to consider for many, but specific risks, growth drivers and local factors have to be evaluated to decide on the investment.

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