Year-end Wall Street projections – how do markets compare?

In addition to eggnog and silly ties, this time of year brings Wall Street forecasts for all kinds of markets.  Since the Financial Crises there’s been a growing body of work from different firms related to forward home prices.  One such piece was recently released by the DB team.  (Contact Doug Bendt douglas.bendt@db.com for a copy.)

DB goes beyond a set of nationwide forecasts and offers their views on where home prices (as measured by the Case Shiller index) will be in three years across 25 regions.  As they provide forecasts on 9 of the 10 components of the CUS-10 city index, and as the CME quotes on the Case Shiller contracts do not line up with the DB forecasts, I thought that I’d share one key graph from their report, offer some observations, and hopefully generate some discussion on how traders might approach the regions with the biggest differences.

The bar graph is from the DB report, while the CME quotes are from today’s market.

The DB report shows a wide range of price projections ranging from Dallas (at the most bullish end at ~28%) to Las Vegas (on the bearish end at ~12%).  This diversity in regional real estate price projections, and with different markets headed in opposite directions,  is more consistent with markets prior to the securitization wave in the last decade.  (Contact DB for methodology.)

By contrast the CME quotes tend to show a much higher correlation across regions, and LAV (one of the weakest markets in the DB forecast) has a mid-market quote that is consistent with 15% appreciation over the next 3 years.

Now, I acknowledge that the CME bid/ask spreads are wide, and the quotes are often no more than 1 lot x1 lot so I’d caution against reading too much into them as projecting expectations.  However, both the DB report and the CME futures reference the same Case Shiller index and both are three-year forecasts.  (Recall that the CME Nov contracts refer to the index measuring home price changes ending in September, so there’s some oranges-and-tangerines element to the comparison.)

Given those common features, I think that the CME Case Shiller futures provide an excellent platform for people to agree-to-disagree.  That is, if one believes that the LAV markets will not be higher by 2015, an outright short in LAV futures might be a strategy.

If one thinks that San Diego is going to dramatically under-perform national indices then an inter-city spread trade between CUS and SDG might be considered.

Net, home price markets work best when people disagree (as opposed to the common complaint that housing is a one-sided market).  I’d encourage readers of the DB report who embrace the authors’ views to get up to speed on the CME Case Shiller futures contracts in case they want to take action on the projections.  I continue to believe that the CME platform is best theoretical way to express outright and inter-city views on home price forecasts.  We just need (lots) more volume.

Please feel free to contact me (johnhdolan@homepricefutures.com) if you’d like to discuss these thoughts, any other aspect of home price derivative trading, or if you’ve authored another report that you’d like to share.