Northeast markets: Opportunity or message?

There's an interesting set of prices that is playing out in the three Northeast markets (BOS, NYM and WDC). While one might expect three regions from the same part of the country to be impacted by similar dynamics, and therefore have somewhat similar forward curves (as the LAX, SDG and SFR contracts do on the West Coast), the East Coast cities contain two areas priced at both the most optimistic and least optimistic outlooks of the ten regions referenced by CME contracts. This is of interest to me as I've owned houses in BOS and NYM, and now live in WDC, and as a trader, because I have positions in all three regions.

To put the trade upfront, I'd like to buy BOS versus selling NYM exposure- for either the Nov 2020 (X20), or Nov 2022 (X22) contracts at prices that imply BOS will outpeform NYM over the next ~2.5/4.5 years by a large amount. For those with brokers that allow such trades it will be posted as an IC (Intercity) spread trade. For those that can't do the spread trade, I'd be happy to orchestrate one leg at at time.^1 I'm open to 20 lots versus 16 lots (~$1mm notional).^2

The tables below show the spot value on each index (in pink), the outright markets on each of the forward contracts, and the spread trade levels (in blue), each of which is inside the outright market levels. In both the X20 and X22 IC trades, the BOS contracts are priced at premiums to spot that are more than 3% higher than where NYM contracts are offered (priced as a percent versus spot). Those who believe that the gains in the two regions might converge, might be interested in my trade. Those that agree that BOS will outperform NYM by ~3% over the next three years might be neutral, and those that think that BOS will outperform NYM by >4% might want to join me on the IC bid.

As illustrated in the graph below, the BOSX22 (Nov 2022 expiration) contract closed almost 9% above it's spot index (232.4 vs. 213.59), while the NYM contract closed only at a 2.3% premium over spot (206.6 vs 201.89). (BTW -The BOS is the strongest of the ten regional contracts using this metric and NYM is the weakest). Some of this is due to how closing prices are calculated on less frequently traded CME contracts ^3, but as noted above, forward markets are consistent with strongly different HPA over the next 3+ years. (Note that WDC leans more toward BOS, and that both BOS and WDC are priced above (as a % vs. spot) the 10-city index contract (HCI). (I'd also be open to quoting NYM v WDC, BOS v WDC, or any other permuation of two regions).

Should BOS be priced at this much of a premium to NYM? Is this a message (reflecting some underlying differences), a trading opportunity, or both?

Both BOS and WDC have somewhat better outlooks than NYM due to lower inventory. (Note that the inventory levels illustrated below may not align with inventory levels for the geographic regions covered by the Case Shiller regions. That said, my expectation that inventory for the geographically much broader Case Shiller indices will bring in suburban, higher-priced homes that are not moving as quickly, so inventory levels would likely be higher.)

A key difference in forward pricing may be the differences in how the regions -particularly for higher-priced homes -have performed. The graphs below show the YOY % price change in the three tiers that S&P provides for each regional Case Shiller index. Until very recently, higher priced homes in the BOS and WDC regions performed close to average. However in NYM, the higher priced homes have dramatically under-performed.

Finally, while higher-priced homes seemed to have under-performed in the NYM area, it's not as if there are so many more of them in NYM, as a percent of all homes. I'd note that the cut-off for the upper tier homes that is used to divide the regional Case Shiller indices into thirds are near the same across all three regions (i.e. BOS the cutoff is $552,430, NYM is $507,591, and WDC is $525,659).

(My sense is that Case Shiller NYM index may be weighed down by the performance of its suburban Connecticut and New Jersey homes, which are two states where public pension problems are most daunting (after Illinois). That might have some support in that CHI has long been the second weakest city. I have a separate passion for issues related to public pensions, but I'll leave the broader topic of "why BOS is stronger" for others to comment. (Please post insights via my contact me link.). My goal here is to highlight trading opportunities.)

Net as I noted above, BOS  may deserve some premium vs. NYM, but of > 1% higher HPA per year (for Nov 2020)? Markets are a great way to foster such debates, hence my trading proposition.

As I noted above, I'm open to any pairs of regions (including some not referenced by CME contracts). Please feel free to contact me if you have any questions about this blog, or any aspect of hedging home price indices.

Thanks, John

^1 - IC trades can be entered at Insignia Futures. For the many readers who use InterActive Brokers, please nudge them to allow such trades in the future, as they don't today.

^2 - 16 lots * 250 contract price * $250/point =$1mm.

^3 Close is the last trade or a higher subsequent bid, or lower offer.