Many home price traders think in terms of implied HPAs (Home Price Appreciation). HPA -as I define it here -is the percentage price difference between one contract and the expiration one year forward. So if the CUS Nov 2012 (X12) mid price is 150, and the CUS Nov 2013 mid price is 154.5 (X13) then I might infer that the CUS market for Nov ’12/Nov ’13 is trading at an implied 3% HPA. (One can generate implied HPA between any set of contracts, but if not year-to-year (or a mulitiple set of years), that introduces seasonal biases.)
While mid-point to mid-point may be interesting, one can trade mid-points at all, much less simultaneously. The trading venue for debating HPAs is the calendar spread market. For example, someone might be willing to bid CUS Nov ’12/’13 at minus 6 points, while someone might offer the same spread at minus 3 points. A -6 bid (on a CUS Nov ’12 mid-market of 150 would implay a 4% HPA, while the -3 ask would imply a 2% HPA.
Thus HPA from calendar spreads tend to bracket mid-point to mid-point spreads. The narrower the bid/ask spreads in the calendar markets, the more likely the implied HPAs are to converge toward mid-mid implied HPA (the outright markets also trade tight).
The following table shows the mid-mid implied HPA for all 11 contracts, bae for what I describe as each of the calendar chords (e.g. Nov ’12/Nov ’13), as well as the spot/May ’12 (K12) and K12/X12 chords. As each of these results refers to a mid-point number, the chords can be linked to generate total index improvement over any period of time. Thus the mid-point of the CUS contract from Nov ’13 to Nov ’16 is 8.06% (1.0252)*(1.0258)*(1.0276)-1.
Let me make a few observations:
- The front chord (spot vs. May ’12) shows that the market is pricing (at the mid-point) that some indices will rise this month, while others will fall. Given how home prices tend to trend, it’s not surprising that last month’s winners (MIA and SDG) are poised to rise, while last month’s loser (CHI) will drift lower.
- All 11 contracts (with the exception of LAV) show at least 2% gains (not annualized) between the May and Nov indices. While some of this may be a turn in prices, there are seasonal factors at work also.
- SFR stands out as the contract with HPA >3% for each year after 2012 (and with a relatively strong “pop” from May’ 12 to Nov ’12.
- In some chords the calendar spreads are right on top of the mid-market HPA (e.g. CUS X15/X16), while in others (e.g. LAV X13/x14) the wide HPA’s from the calendar spread quotes indicate that the bid/ask on those calendar spreads must be very wide.
You might be able to make other observations.
Net, though this is a handy table for making sense of converting what the market is saying into implied HPA and for letting you know where calendar spreads are narrow, or need work.
Please contact me (johnhdolan@homepricefutures.com) if you have any questions related to this blog or any aspect of housing derivatives.