I'd like to take readers from last week's blog that highlighted an updated template for HPHF Ratio Agreements that includes implied forward prices on home price indices.
Today, I'm re-rolling out an expansion of that effort to cities not referenced by pubic Case Shiller indices (e.g. Austin, Nashville, Pittsburgh, Houston). ^1
The illustration below shows: a) a graph of the historical ratio of the Freddie Mac Philadelphia home price index divided by their National index (in black), b) quotes on HPHF caps, floors, bids and asks, c) a table showing how the implied bids and offers stack up against spot levels, and d) a graph of the Philadelphia index along with implied bids and offers on that index, as derived from the HPHF quotes.
For example, using Feb 2024 expiration as an example, HPHF has an implied bid for the Philadelphia/National ratio of 0.97 (vs 0.972 spot). Recall from prior blogs that HPHF Ratio Agreements (RAs) are structured as calls and puts. As such, the 0.03 bid on a call with a 0.94 floor, implies a 0.97 outright "bid" on the RA. Conversely, the implied 0.99 "offer" comes from my willingness to buy a put struck at 1.02 for 0.03 points.
The Philadelphia RA is rebounding after several years of underperformance, and (the mid-market levels of 0.98 and 0.99) HPHF quotes are consistent with outperformance of Philadelphia vs the Freddie Mac National index for the next two years.
However, readers are often interested in where outright Philadelphia forward home price risk might clear.
The last graph (at the bottom) shows the historical value of the Freddie Mac NSA Philadelphia index, and levels that the above RAs would convert into outright levels. The reason that the implied outright bids and offers do not reflect the past trajectory of upward price moves, is that they are based on a combination of the CME Case Shiller 10-city index futures and the relationship between the Freddie Mac index and the Case Shiller 10-city index. (See yesterday's blog for a more detailed explanation of this critical converter tool).
The CME quotes for the 10-city index for Feb 2024 (HCIG24) on Monday Aug 21 were 325.0/327.0, bracketing the spot index of 325.72. However that implies no further price gains for the balance of 2023.
The CME Feb 2025 contract is quoted 317.4/321.4, or 2-3% lower than the Feb 2024 contract. (There are many reasons that the back contract value is less than the front contract -even with expectations of positive HPA - but think of inventory shortages pushing up near prices, while poorer affordability eventually playing out in the longer run. See Aug 21 blog for more detail on why risk transfer seems to clear below expectations). As such, even though the Freddie Mac National index is expected to outperform the Case Shiller national index (by ~1% in 2024), and even though Philadelphia is expected to outperform the Freddie Mac National index in 2024 (by 1.02% -as shown in the table below), the implied Philadelphia outright price for transfer of home price risk is lower for 2024 than 2023.
Of course this is just one market, reflecting my views, and users are welcome (encouraged!) to disagree.
The key takeaways are that the forward clearing levels for Freddie Mac Ratio Agreements can be quoted, and that these ratios can be converted into forward prices that infer levels where risk might clear, and not necessarily that of expectations.
The benefits of opening up Agreements to metros having Freddie Mac indices include: a) there are > 300 metros (although I'm going to focus on the top 50), b) Freddie Mac indices are publicly available (unlike indices that are sold), and c) Freddie indices can be used in derivative agreements (unlike Zillow, and Teranet in Canada, who don't allow their indices to be referenced this way).
I've have touted some Freddie Mac-referenced Ratio Agreements on Twitter in the past (e.g. Austin on June 4th) and intend to more frequently tweet ideas (from @HomePriceHedges). Please let me know what metros you'd like to see quoted, or if you have any questions.
Thanks, John
^1 That is, beyond the 20 sets of public metros, Core Logic will make available "Case Shiller style" indices on other metros, for a fee.