sfr – HomePriceFutures.com

Moving? A potential application of Inter-city (IC) spreads

Redfin recently published a great piece that detailed how some residents look beyond their local area for their next house. They noted that many many people in a region look at the same next cities (sorted both by in-state and out-of-state searches) with certain marked preferences. For example, many LA residents eye San Diego, New Yorkers frequently consider Boston, and Denver homeowners seem to covet Seattle’s low taxes.

The graph below (from Redfin) show the net flow of users searching for other regions. (Net flow is the number looking to leave versus the number looking to take up residence). Seattle has recently re-taken the award for most people looking to move there, while Denver residents are looking elsewhere in larger numbers. This is interesting data to those who believe that population flows are a key component to changes in home prices.

Residents moving from one region another may face the risk that home prices will fall where they live, while rising where they want to move. Fortunately, my analysis suggests, and other research confirms, that home prices on many of the common pairs that Redfin identified are highly correlated, using region-wide measurements. ^1 For example, using YOY changes in Case Shiller indicies, the LAX, SDG and SFR regions have all been >90% correlated since 2013.^2,3 Surprisingly (to this former Connecticut resident now living in DC) the correlation across the three Northeast regions is not as strong, ranging from as low as 43% between NYM and WDC, to >75% between BOS and NYM and WDC.

For those in the later categories, intercity spread trades may be a useful tool for going simultaneously short futures on the region they’re leaving, while going long on the region to which they hope to move.^4 In effect, users might be able to hedge some of the risks of their move.

The table below lists (on the left side) the top 6 interstate 2018 transitions highlighted in the Redfin highlighted report. (I’ve added the intrastate move from LA to San Diego, as there are CME contracts on both). While the Redfin article has much more detail on the net number of people moving, my contribution to this discussion is to share how the CME markets (using the Feb ’20 contract to capture 2019 year-end values) might be used to possibly hedge these moves.

First, here’s a few explanations and observations:

For both the “From” and “To” cities, I’ve listed the current spot index, the bid, ask, and mid-market for the Feb ’20 (G20) contract on each city, or levels that I’d consider OTC trades (i.e. for Seattle, and Phoenix -highlighted in yellow)^5. The “Mid/ Spot -1” columns show the difference (in percentage terms) between the spot index for each city (both “From” and “To”) versus the spot index for each city.
Note that between the pairs of “From” and “To” cities, there are a total of 10 cities, and that for all but 3 (Seattle, Denver, and Phoenix) the “Mid/Spot -1” is a negative percent. Recall that the CME figures (at least for one-year forward contracts) don’t necessarily represent expectations of lower prices. The bids and offers are just levels that traders are willing to buy or sell contracts.
Note that in 6 of the 7 moves that Redfin highlighted, the “Mid/ Spot -1” value is higher in the destination city. (The difference between the two is shown in the “Diff” column.) Thus, it seems that either people may be moving to the more booming cities, or the act of people moving to those areas is correlated with better performing home contracts (as measured by the “Mid/Spot -1” metric.
Note that, the San Fran to Seattle move looks to have the biggest “payup” (i.e. going from a region where these quotes would be consistent with the SEX (Seattle) index outperforming the SFR index. By contrast, the move from Washington DC to New York, seems like the best bargain, as these quotes are consistent with WDC (Washington DC) index prices falling slower than NYM.

Finally, I’ve added levels where I’d be open to an intercity spread trade. For example in the NY to Boston move, the difference between the NYM and BOS “Mid/ Spot -1” numbers is 1.85%. Since both regions have a CME contract, I’d buy a NY contract while selling a BOS contract (a pair someone moving might be interested in ) where Boston outperforms NY by 3%, or go the reverse (buying Boston/ selling New York) where Boston outperforms by 1%. (See example below).
I’ve not posted this particular IC trade (or any of the others) as best orchestrated off-exchange, or users will need access to a broker who can execute IC trades.
While I’ve focused on the pairs Redfin highlighted, and for the Feb ’20 contract, in concept it’s possible to construct any other pairs of indices, for any other expiration.

Please feel free to contact me (johnhdolan@homepricefutures.com) if you’d like to discuss any aspect of this blog, want to move forward with any of the IC proposals discussed, or have questions on any aspect of hedging home price indices.

Thanks,

John

Footnotes:

^1 This might be no surprise as the people that like the attributes of one region seem to see similar attributes in another.

^2 Recall that correlation means that they move in the same direction at the same time, but not necessarily by the same amount/percent.

^3 Note that these are changes on the index, not any particular expiration of a futures contract.

^4 Even for those moving between two highly correlated regions, futures might be a useful tool should one be increasing/decreasing exposure.

^5 Contact me for details on how one might trade any home price index, not listed on the CME.

Majority of regions tipping toward negative HPA in 2019, falling from there in 2020.

Quotes on CME Case Shiller home price index futures have tipped over toward being consistent with negative HPA in 2019 for five of the ten regions (NYM, CHI, LAX, SDG, and SFR). Of the other fiver regions none are much above zero HPA, with BOS, DEN, and WDC just below 1%. Only BOS and LAV are priced for more than 1% gains against today’s spot levels.

The graph below is a candle graph that I use in monthly recaps. Price quotes on each of 11 CME regions (the 10-city index contract (HCI) and each of the ten components) have been converted into percent vs. spot for bid, ask and mid. For example, the BOSX19 bid, ask, and mid are 218.0, 221.0, and 219.5, while the BOS spot index is 216.56. Each bar thus shows the relative width of the bid/ask spread as well as the pricing vs. spot for each region, standardized on percentage terms. The outliers include LAV (priced consistent with gains for 2019), and SFR (priced at 2-3% declines through 2019 and 2020.) There are 22 bars, one for X19 (Nov ’19) and one for X20 (Nov ’20) for each of the 11 regions.

The graphs shows which contracts are above 100% (i.e. where prices would be unchanged versus spot), and compares the X19 to X20 ratios. Note that as a general rule, regions with lower prices for X19, tend to have even lower prices for X20. Hence, the net inference one can draw is that quotes are consistent with falling home price indices in 2019 for half the contracts, but that prices are lower in 2020 (vs. 2019) for almost all.

I’ve written recently how all CME quotes need to be taken with a huge grain of salt. The biggest point is the thinness of trading, as well as my belief (that I will explore in an upcoming blog) that longer-dated (i.e. more than 9 months) futures prices tend to be quoted at a discount to expectations. (See Dec 11 blog: Pulsenomics survey: Why are surveys results more bullish than Case Shiller futures? for more perspective). That said, several contracts are offered at discount to spot, or lower in 2020 than 2019, and no one’s “disagreed” (via an improved bid or purchase). The contracts need buyers to balance hedging inquiries I receive. Any takers willing to add what it likely a non-correlated risk to their corporate risk portfolio?

Feel free to contact me (johnhdolan@homepricefutures.com) if you have any questions on this blog, or any aspect of hedging home price indices.

Performance of regional contracts in 2018

The performance of the CME Case Shiller home price Nov ’19 futures contracts varied by region during 2018. (I picked Nov ’19 (X19) as the Nov. cycles tend to have the best liquidity.)

Six of the ten regions were higher (with LAVX19 posting, by far, the largest gains of 16.o points, and DEN and SFR also up), while four of the regions were lower (with CHI and NYM falling the most). Given the larger weights in the 10-city index of the CHI and NYM contracts (and LAX which also fell), the HCI X19 contract was also off 4 points, or 1.7%.

Notably, six of the eleven contracts closed at levels below spot index values. (See the Close/Spot-1 ratio in the “Mid/Spot-1” column). This inversion has not been seen since before 2013.

There were 110 contracts traded last year with >50% in SFR. Two of the “quietest” contracts (LAX +0.9%, MIA +0.5%) had no trades for 2018. One of my resolutions f0r 2019 is to change that, so please reach out (johnhdolan@homepricefutures.com) if you have a trading idea for those regions, or if you’d like to discuss this blog, or any aspect of hedging home price indices.

Thanks, John

Diagram to reflect changes in forward SFR markets

The graph below may be the best way of illustrating several points that are key to understanding home price futures, as well as the current debate over home price expectations:

All home price indices (including Case Shiller) measure events that have taken place a couple of months ago. Since traders often incorporate changing expectations, futures prices may go down (or up) while index values are rising (or falling). As the graph shows, the SFR (San Fran) index slowly increased in all but one month since Nov 2017, while the SFR X20 (Nov 2020 expiration) and X22 (Nov 2022) contracts rallied until about Sept 1, and then collapsed. As such, there may be useful, more-timely information in such forward-looking markets, that is not captured in published indices.
Futures prices are public, are updated in real-time, and are posted by traders willing to financially back their views. As such, they differ from periodic forecasts. Both may be useful (and more so, if markets are deep and liquid). The press and analysts, should pay more attention to futures prices.
Futures prices have to converge to index levels as the contracts settle on some future (albeit unknown) index value. The graph of the SFRX18 contract and the CS SFR illustrate this convergence. Recall that the data for the Nov ’18 settlement includes home price activity from July, August and September. As such, (particularly on such shorter-expiration contracts) expectations of future index values should dominate pricing of futures contracts, as subsequent events (e.g. stock market falling 200 points in October, can’t impact past index calculations).
At times, longer-expiration contracts may be more volatile than suggested by standard risk metrics. (See August-Sept 2018 section in graph.) This has implications for pricing longer-dated options.
The difference between curves may be consistent with views on forward HPI. The ~20 point difference between the X18 and X22 contracts in mid-year may have been consistent with ~3% HPA assumptions over the next four years. By contrast, today’s X20/X22 prices have fallen due to changes in views that may be more consistent with <1% HPA. A key debate in these markets is whether the forward premium collapse is due to more negative forward sentiment, or just the old “more sellers than buyers” adage. (BTW -The curves may go inverted -i.e. with longer-dated contracts trading at a discount to either spot or front contracts – as was the case in 2008. Such pricing would be consistent with negative HPA.)
Hedging works. Note that someone in May -July, looking to lock in market-implied HPA of ~3%, could have hedged spot SFR exposure with longer-dated SFR contracts, and made money on both sides as longs rose in value, while shorts fell, as HPA expectations collapsed.

Now I can’t make the above statements without adding some qualifiers and observations, that also speak to understanding trading these futures, and how one might interpret prices.

These markets are thinly traded. In the three contracts shown there may be have been weeks without a trade. “Closes” can change without a trade as they are (at CME) a function of last trade, a lower offer, or a better bid.
Traders may buy or sell (or post bids and offers) for a variety of reason beyond their expectations of future index values. For example, traders may be looking to hedge real estate (or other) exposures, or sense that sentiment will grow more negative. Given the lack of depth, the arrival of larger new contract buyers or sellers, may put upward/downward pressure on prices, unrelated to expectations.
I tend to show 1×1 “actionable” quotes (one bid versus one ask) to form graphs, narrow bid/ask debate. I may be aware of more interest, at, or inside bid and offer, but may not show (or keep live all day/week). As such: 1) please refrain from market orders that are bigger than amount shown, and 2) feel free to contact me if you’d like to share ideas.
The CME Case Shiller futures contracts seem to react most notably to infrequent events -e.g. monthly updates to index values, announcements on home sales, S&P 500 index changes of 50+ points. More trading tends to take place on such days, but otherwise prices tend to be quiet and trend/drift in-between with limited trades.
Most trading seems to take place in the first 30 minutes and last hour of the trading day (the former often coinciding with economic updates). A trader looking to get something done should appreciate (IMHO) that there will be more eyeballs on the contracts at those hours.

Feel free to contact me (johnhdolan@homepricefutures.com) if you have any questions on this blog, or would care to discuss any aspect of hedging home prices.

Thanks, John

Oct recap of activity in CME Case Shiller futures – busiest month in the last year.

I’ve posted a recap of activity in the CME Case Shiller home price index contracts for October. The recap is in the Reports tab or you can access here.

Highlights of recap include:

–There were 22 futures contracts traded in October, across 6 expirations, and 3 regions. Trading, and third-party quotes, in SFR contracts (where 12 lots traded) dominated activity. There have been only 3 months since Nov 2013 with higher volume. Beyond that, activity was scattered across the month and often throughout trading days (particularly when the equity markets were volatile).

–The LAV, SDG and SFR contracts had the most regional activity, with LAV (and WDC) breaking away from other contracts is not falling much. Forward HPAs across regions have started to diverge from the 10-city index (some priced for better HPA / some for worse), consistent with either different outlooks across regional markets, or given limited trading, pressure on regions where traders are looking to hedge.

–There were no options trades (but many inquiries.)

–Bids and offers collapsed across most regions in the largest sell-off in CS contracts since the Financial Crises. The LAXX22 contract saw the biggest decline of ~12 points. LAV and WDC were relatively unchanged.

–Forward curves flattened with some calendar spreads in longer-dated expirations bid at negative spreads (i.e. sell front contract/buy back one for a lower price).

–Increased volatility, combined with flattening of forward curves, led to much higher put option quotes. (My standard page of one-year puts is not included in this recap, but will be the topic of a blog early next week)

–Despite volatility, bid/ask spreads only widened a small amount (as more traders weighed in, often throughout trading days). Such widening was concentrated in X20 and longer contracts.

–OI on futures increased from 47 to 49, consistent with some positions being closed out, or intra-month trading.

Feel free to contact me (johnhdolan@homepricefutures.com) if you have any questions on this blog or any aspect of hedging home price indices.

CME Markets post this morning’s Case Shiller #’s

Quotes on the CME Case Shiller home price index futures are generally lower by about 1/2 point per contract, after this morning’s release of the monthly Case Shiller numbers. The table below shows prices for the 11 Nov. 2019 contracts (X19) comparing yesterday versus today. The LAV and WDC contracts are higher (based on mid-markets) but all nine other contracts are lower. Home price indices on the coasts (BOS/NYM and LAX/SDG/SFR) faired worse than those inland. (This despite substantial upward revisions in last month’s NYM index.)

Forward curves continue to come under pressure. While the S&P press release led with the headline “Annual gains fall below 6% for the first time in 12 months”, year-on-year price differences on several contracts are consistent with HPA dropping to <2% by 2020.

There have been no trades yet today, but 22 contracts have traded this month, the largest monthly total since Jan. 2017. (My sense is that volume picks up when markets change direction. The biggest volumes were in the first months of the Financial Crises and in Spring 2012 when home price bottomed.)

Feel free to contact me (johnhdolan@homepricefutures.com) if you have any questions on this blog, or any aspect of hedging home price indices.

Thanks, John

Using futures to hedge under-exposures (future purchases)

The sell-off in SFR contracts described in my Oct 11 blog continued last week, but seems to have paused with the rally in stocks over the last two days. However, even with prices stabilizing, quotes on SFR contracts have fallen to levels that may be of interest to those looking to buy a house in San Fran at some point in the future. That’s because the offered side of longer-dated SFR contracts is only a small amount above current spot levels. After years of 10+% home price gains, someone looking to buy a house today, but who doesn’t yet have enough for the down-payment, can lock in prices on the San Fran index 2-3 years from now, at levels that are consistent with home price gains of <2% per year.

For example (using the table below), Nov 2020 SFR home price index contracts were offered at 280, a level only 3.7% above the current spot index of 270.1, for an annualized gain of ~1.83%. Someone able to save at a greater yield, or who might be able to add to their savings toward a down payment, can hedge against further runaways in San Fran prices.

To recall, the ability to lock in future index levels comes from the fact that the CME Case Shiller futures contracts prices “cash settle” on the index value at settlement. As shown below, the SFRX18 (Nov 2018) contract, that expires next month, and SFR index have converged to narrow differences. The X20 (Nov 2020) contract will similarly converge to the spot index -at some unknown price in the future.

Some notes:

Futures hedge against changes in index values, so aggregate movement in home prices, not prices of individual houses.
An individual contract has notional value of $250* price, or using a price of 280, $70,000.
There has not been much volume in SFR contracts, but 5-10 lot orders (so $350-$700k notional amount) can be traded. (Best to use limit orders, or contact me if interested).
Futures prices can rise/fall for a variety of reasons before expiration as traders have multiple reasons for buying/selling.

Please feel free to contact me (johnhdolan@homepricefutures.com) if you’d care to discuss this blog or any other aspect of hedging home price indices.

CME Case Shiller price moves during stock market selloff

Quotes on the CME Case Shiller home price index futures have been moving lower since month-end, and most notably somewhat in sync with the selloff in the stock market over the last two days. The price moves for the first two weeks of October have been larger than any monthly move in recent memory (hence this post).

The tables below show changes to individual the HCI (10-city index) contracts, as well as summaries for the price moves across regions and expirations. Note that the last two series don’t tie out as the far right column only tallies price changes on contracts where there are two-sided markets. A set of the changes for all 11 regions is included in the Reports section, or you can access here.

At a high level, prices are lower across all regions, and for all expirations (except Nov ’18, which measures activity through Sept 30), with the biggest declines in longer-dated contracts. Such price moves are consistent with declining HPA (as early as the K19 contracts). Some longer-dated calendar spreads are now bid flat (i.e. the next contract would be bid at the level of the earlier one) and I could see selling interest taking X22 contracts negative.

Price declines have been biggest in the California contracts (LAX, SDG and SFR). Bid/ask spreads have not widened as much as in the past, as third parties have been posting (a limited number) of bids and offers. Third party activity remains focused on the LAV, LAX and SFR contracts.

Other than a series of trades in the (soon-to-be) expiring SFRX18 contract, there have been no trades, but several tight selected markets.

With the stock market selloff, rise in VIX by >50%, and the price moves here, my offering levels on puts has jumped (as higher volatility, lower forward prices, and absence of third-party buyers demand additional caution.)

As with any market disturbance the current re-pricing may present some interesting trading opportunities. Please feel free to contact me (johnhdolan@homepricefutures.com) if you’d like to discuss any trading ideas.

Thanks,

John

CME reaction to post Tues Sept 25 CS#’s

Quotes on the CME Case Shiller home price index futures are mixed, and a hair lower, after this morning’s release of Case Shiller numbers. As illustrated in the table below, prices on the Nov ’19 (X19) BOS and LAX contracts are lower by one point, while the LAV and SFR contracts are higher. The HCI (10-city contract) is lower by 0.5 reflecting slight declines across the ten regions. Bid/ask spreads are almost back to pre-CS#’s.

While there have been no trades yet today, (with the turn in HPA) I continue to receive inquires from people looking to buy puts. (Most inquires are for 1-2 years for slightly out-of-the money strikes). In my Sept 21 blog I highlighted that options are now easier (for me) to trade across all ten regional contracts. I have a limited budget for put writing, so anyone looking to sell puts should have some pricing power.

Please feel free to contact me (johnhdolan@homepricefutures.com) if you have any questions on this blog, or any other aspect of hedging home price indices.

Thanks, John

Credit Linked Notes – High Coupon for taking downside risk on index

Last week I wrote about how one might construct a Principal Protected Put (“PPP”) (thank you PW) to buy protection for a downside move in a home price index, at the cost of foregoing income. Today, I’d like to highlight the opposite strategy, where one might accrue a higher coupon, at the expense of taking exposure to downside movements in a home price index. A hypothetical example of the possible resulting payouts (referencing the SFRX20 contract) is shown below.

At a high level, if an investor bought such a CLN, and if the SFR index was above 270 at expiration in Nov. 2020, the investor would receive 100% of principal back, while earning a coupon that paid 1.3% over a benchmark rate (e.g. Libor in the past). However if the SFR index was below 270 at expiration (only) then the amount of principal paid back at maturity would decline (as show in the second column from the left).

Further, if an investor preferred a higher coupon, the put could be internally leveraged (in the example to the right) such that the coupon was three times as high, but at the expense of the principal reduction also being 3x as fast, should the SFR index be below 270 at maturity.

Note for this example that the SFR spot index is 268.34, but the SFRX20 contract closed at 285.0. I’ve picked a 270 strike for the puts as it’s close to the SFR spot level, but >5% out-of-the-money on the SFRX20 contract. (Many credit note investors prefer a base case -in this instance where the current futures contract price remaining unchanged- where full coupon and principal would be returned at maturity.) I’ve rounded off the term to 2 years (i.e. as if today were Nov. 30, 2018) to simplify math, and assumed no expenses, or margin calls, all of which are realities that would need to be addressed. As with the PPP concept, any combination of expiration, and strike is theoretically possible, for any region, with a range of leverage. Finally, all of the above analysis is predicated on being able to find a party willing to buy the put (from the CLN issuer). (To save you the math, I’ve assumed a market of 7.0/11.0 for the CME SFRX20 270 puts and that the CLN issuer sells the puts at 7.0).

Again, the point of this example is not to tout or create an actual CLN, but to illustrate the moving parts behind one, and to show a “short put” strategy in a bond-like comparison.

MBS credit investors should be very familiar with the concept as it generally mirrors the structure of the billions of STACR/CAS bonds that Freddie Mac and FNMA have issued over the last few years. In fact, I’d argue that such a CLN might be much easier to trade as: a) the underlying reference obligation is publicly traded -so price discovery and hedging is possible, b) the term is only two years (in this example), and c) severity on CLN is known upfront )). Such a CLN/ index put/ strategy concentrates “credit” exposure to one region, while STACR/CAS bond investors have tail exposure to whatever the weakest MBS credit areas might evolve to be over the much longer lives of those deals.

Please feel free to contact me (johnhdolan@homepricefutures.com) if you’d care to discuss this blog, options on home price indices, or any other aspect of hedging home price indices.

Thanks, John