While the CME contracts reference the Case Shiller 10-city index (and its ten components), some traders believe that there “may” be quite a bit to learn from other indices that might be helpful in trading the short expiration CME contracts. Since the FHFA indices for January were released on Tuesday March 24th (click here) just a week before the Case Shiller release of the January indices next Tuesday, I thought that I’d start with that index. (Note that I’ve also added a link to the calendar of FHFA release dates in the Resources section on the Homepage.)
The graph to the right shows the year-on-year (YOY) change to each index since 1992. Note that I’ve used the non-seasonally adjusted (NSA) monthly series in both cases as a) the CME contracts reference the NSA Case Shiller index, and b) such an approach allows for more of an “apples vs. apples” comparison. Recall that the FHFA indices are derived from higher quality loans (those guaranteed by the GSEs) than the Case Shiller universe, and so not surprisingly the FHFA index has been more stable. The Case Shiller index may better reflect the impact of home price appreciation (HPA) in those geographic areas that saw sub-prime lending in the earlier part of the last decade, as well as the larger sell-off following the peak in home prices. In addition the higher CS YOY results in 2011 and 2013 line up with housing subsidy programs and “Buy-to-Rent” investor programs.
Net, I think that the more stable FHFA index may be a useful tool for predicting longer-term home price trends, with traders needing to make adjustments around the FHFA index for attributes in the Case Shiller index that reflect the broader universe of borrowers. For example, if one believed that, over the next five years, FHFA index values will rise consistent with 3% HPA (just hypothetically), the question for CME traders (i.e. those forecasting Case Shiller indices) will be how potential changes to the lending landscape might impact more marginal borrowers. Easier lending terms, the reemergence of a large RMBS market backed by sub-prime loans, or just the elapsing of time that might cure FICO scores, might all give the Case Shiller indices a boost versus FHFA indices. In addition, the CUS-10 index is a more urban index (reflecting the size of each of the ten underlying regions) than the CUS 20 index or the FHFA index. Trends toward greater urbanization, and/or flight from the suburbs might be consistent with CUS 10 outperforming the FHFA index. On the other hand, the lower cost of oil, and the deflationary impact of lower prices on European goods, may benefit the wider geographical,and conforming loan-balance audience referenced by the FHFA indices.
Net, I think that it makes sense to use trends in the FHFA index to infer forward values for that index, but then to make adjustments (higher or lower) to the CUS 10 index (the one that CME traders focus on) as the lending environment evolves. However, given the noise in the difference between the two indices, I’d be cautious in inferring short-term movements, or in ascribing very precise changes to the Case Shiller index from the FHFA numbers.
The comparison begs the question of what expectations are for FHFA indices a few years forward. Is anyone able to steer this discussion to a market or survey on that topic? Anyone want to weigh in on their expectations for FHFA index values 1-3 years from now?
Please feel free to contact me (firstname.lastname@example.org) if you have questions on this blog or the CME Case Shiller futures.