Home Price Futures – Are we there yet?

(This was part of my inaugural effort in Jan. 2009 to comment on the CME Home Price futures contracts.  I’ve reformatted the tables but my observations are the original ones.)

Jan 9, 2009 – With home prices at the center of our economic problems, I’m surprised that there haven’t been more quantitative discussions about home price forecasts.  Most investors, like the kid in the back seat on a long car ride have two great concerns that dominate their outlook:

1)      “Are we there yet?” (Have home prices hit bottom?)

2)      “How long ‘til we get there?” (When will they bottom?)

While the “we’ll get there when we get there” may suffice for a toddler, it’s a challenge to run a mortgage investment or servicing platform with that degree of uncertainty.

While many forecasters predict generally lower home prices of 10-25% there has been very few direct ways to react to or disagree with those estimates.  Many investments (equity investments in banks, purchases of mortgage-backed debt) hinge on an implicit view of home prices over the next few years (and in theory should be hedged against getting that home price forecast wrong).  That is why it surprises me that more people are not trying to express their divergent views (trade) in the CME’s CS Home Price Index futures.  In that context I offer the following material for discussion purposes*.

The table below highlights key features of a subset of the eleven home price index contracts traded on the CME for settlement in Nov. 2009, and the corresponding CS indices, as of Jan. 16, 2009. 

An interpretation would be that between now and September 2009 (as evidenced by Nov 2009 contract prices) that the CS index will decline by another 6-18% across various regions.

If June 2006 is viewed as the top in home prices (see graph for five indices) than the price declines from top to bottom will approach 50% (San Francisco is the worst).  Those indices that had the highest appreciation (Los Angeles and Miami) are priced (implied futures price) to fall the furthest.  The price declines projected by the Nov ’09 contract would indicate that the indices will retreat to levels seen in 2002-2003 and then remain flat for a few years.

The implied index price declines suggest that those areas that have fallen the hardest already (e.g. Miami) are the closest to finding a bottom (e.g. 90% “done” on the prior table.  On the other hand, New York, which has held up well so far, should expect to bear the brunt of the financial crises with almost half (only 55% “there”) of its total price declines still ahead. 

So, we’re not there yet, but we’re getting close. (And it looks like our ride will be a round trip to 2002).


*I may have positions or pending bids and offers in some of the contracts.