Lance Lambert (@NewsLambert) had a recent excellent post (https://x.com/NewsLambert/status/1765852204835975454?s=20) highlighting some work prompted by Zillow that showed how much the income needed to afford a home had risen over the last four years, across a variety of metros.
I wanted to break that overall increase out into the impact of the change in home prices and the change in mortgage rates. So, I took that work, overlayed the change in Zillow index levels, and calculated the % rise in home prices, with the notion that the rest of the gain is due to increases in mortgage rates.
The illustration below shows the work in the spreadsheet listed on the Resources page of my www.homepricefutures.com/resources website.
For example, the change in income needed to afford a home at the United State level went from $59,046 (column D) in Jan 2020, to $106,536 (Column G) in Jan 2024, a gain of 80.4% (Column K).
During the same time frame, the Zillow United States home price index went from 244,331 (Column M) to 344,159 (Colum N) a gain of 41% (Column O).
Since the gain in home prices seems to explain 41% of the overall 80.4% gain in the required income to buy a house, I'll ascribe the balance of 39.6% (Column P) to the rise in mortgage rates.
Net, Lane and Zillow have very effectively highlighted (to my way of thinking) that potential homebuyers faced two risks in Jan 2020: a) that home prices would rise, and b) that mortgage rates would rise. However, these risks could've been hedged!
Leaving aside the topic of hedging interest rate risk (to another blog or expert) I want to focus this report on how home price risk could've been hedged.
As i noted in a very recent blog (https://www.homepricefutures.com/posts/four-year-performance-of-cme-case-shiller-regional-contracts-long-hedging or see blogs tab on the website) that the prices of the regional Feb 2024 (G24) CME Case Shiller home price index contracts marched higher over the last four years. I had also had noted earlier that Zillow and Case Shiller indices tended to move in tandem (https://www.homepricefutures.com/posts/if-five-analysts-say-home-price-will-rise-4-whos-the-most-bullish-examining-performance-of-home-price-indices)
A homebuyer, sitting in Jan 2000, looking to buy a home in Jan 2024, could've bought the notional equivalent amount of the regional CME Feb 2024 contracts and hedged much of the gains that Lance/Zillow have pointed out. Column R shows the gains on the ten regional (and 10-city index) Feb 2024 contracts, and Column S compares those gains vs the % Rise in Zillow index (i.e. Column R divided by Column O). For example, the gain on the CME 10-city index contract during the four years was 37% (column R) or about 91% of the gain in the "income needed to afford a home" that I attribute to home prices (Column O). The gains on each of the ten regional contracts map well against the changes in the Zillow index. No surprise, the areas that Lance/Zillow identify with some of the higher required income increases (e.g. Miami) have the highest gains in both home prices AND the CME Miami Feb 2024 contract.
Further, while I only show the ten regional CME contracts, hedging for other metros could have been accomplished with my HPHF OTC agreements.
Net, consumers (here facing home price risk) or many other risks, should know that there are ways to hedge those risks. Of importance, the notion of hedging doesn't require 100% coverage. That is, someone looking to buy a $400k home can buy contracts (with notional values of $50-80k) in bite-sized pieces and can spread any purchases out of longer timeframes. (see 201 blog https://www.homepricefutures.com/posts/reduce-the-stress-of-100-rent-vs-100-buy-decision-with-bite-sized-pieces).
I have no idea where home prices are headed but if users feel that they are under-weight home price risk exposure, know that there are ways of hedging that concern.
Please feel free to contact me on this blog, or if you have any hedging ideas to discuss.
Thanks, John
