I recently started posting indicative quotes for OTC Agreements referencing some home price indices from Parcl Labs. While's I'm quoting outright levels, the format of these Agreements will be similar to HPHF Ratio Agreements, in that they will be structured as deep in-the-money calls and puts for approved counterparties.^1 (More below and see https://www.homepricefutures.com/hphf for more details.)
I rarely quote outright levels on home price indices as prices as the caps and floors on HPHF Agreements need to be wide enough to handle 20% moves over the typical 1-2 year time to expiration.^2 Posting capital to cover my side of such moves (i.e. 10%) is an inefficient use of capital.
However, these OTC Agreements on Parcl indices are targeted for < 6 months to expiration where price volatility is not as extreme, so I'm quoting outright price levels as I can use tighter floors and caps.^3 In addition, using outright prices will: 1) give traders of Parcl smart contracts some sense of forward prices that they can reconcile with implied funding costs on the smart contracts, and 2) introduce those not familiar with Parcl indices some views of expected price movements, given trends, other markets, and any seasonality unique to Parcl's methodology.
The illustration below includes updated indications on the Parcl Los Angeles (City) index for June and September 25th expirations. The outright levels for bids, asks, floors and caps are at the bottom of the graph.
As such, someone looking to buy the June value of 660 would (per HPHF format) buy a call struck at 624 (with a 686 cap) for 36 points (660 minus 624). Someone looking to sell the June value of 650 would buy a put with a 686 strike and a 624 floor for 36 points (686 minus 650). Bids, asks, floors and caps are all subject to negotiation.
Initially, I would take the other side (i.e. buying a put from HPHF if someone buys a call) but am hoping to encourage two-sided flow. The premium from the call and my put would fully collateralize the total payout of 62 points (Cap of 686 minus floor of 624).
The parties can agree to the value of a point, and therefore back into the implied notional value, or start with the notional value to back into the value of a point. For example, if one point equals $100, then I would view the notional as the mid-market price (655) *100 or $65,500.
If the notional was $200,000 then each point would be ~$305.
Premiums can be sized accordingly.
Feel free to contact me if you have any questions on the above, or if you'd like to see quotes on other cities.
Thanks,
John
^1 - Counterparties have to pass KCY and ALM standards. I only deal with US counterparties who provide funds from US-based financial organizations.
^2 -I am not in a client-facing business where I could try to collect margin. Instead I have counterparties who pay for calls and puts, with the proceeds being using to collateralized exposures. The caps and floors are designed to capture 95%+ of possible moves.
^3 For example, I'm using ~4% caps and floors on the June agreements and 6% on the September agreements. (Both subject to negotiation).