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[admin]

On Tuesday, February 24th, Standard & Poor's released the S&P/Case-Shiller housing price index data for December 2008. Boston prices fell 7.01% from one year earlier, in nominal terms, as previously reported (Info/Broken?).

The February 2009 futures contracts for the index, which cover prices in the fourth quarter of 2008, were also settled on the same day. When the extended S&P/Case-Shiller futures were first introduced, Mike suggested that somebody archive the predictions of the futures contracts, and I proposed that a good time to do that would be each day that a futures contract is settled (i.e., quarterly). This post is an attempt to provide such a time capsule for the future.

Below are two graphs of the S&P/Case-Shiller Index for Boston from 1987 through the present (shown in solid purple), with the expected future values added using the values of the futures contracts on the indicated dates:





The market is pricing in the following with respect to nominal housing prices through 2013 Q3:

• An additional decline from the most recent month of 4.61%.
  
• A total decline from the peak of 19.98%.
  

The market expectation implied by the closing values of the futures contracts on February 24th is that nominal prices will continue to decline through 2009 Q1 and then remain relatively flat through 2013 Q3, which is as far into the future as they go. In previous snapshots, the futures implied declining prices through 2010 Q1 with relatively flat nominal prices thereafter. The movement of the nominal bottom from 2010 Q1 to 2009 Q1 is in large part due to the expected decline by 2009 Q1 growing deeper than before. In other words, the expected decline is as large as before, it is just expected to happen sooner.

Of course, flat nominal prices imply falling real prices when inflation is present. While consumer prices in the US were actually experiencing month over month deflation for a few months recently, the secular trend remains inflationary. In past reports before November 25, 2008, the futures contracts were corrected for inflation using the adjusted 10-year TIPS-derived expected inflation published by The Federal Reserve Bank of Cleveland. Unfortunately, they discontinued publication of this series on October 31, 2008 citing an "extreme rush to liquidity" as making the estimates no longer accurate. Consequently, future inflation from then on has been estimated using the yield on 5 year Treasuries. Suggestions for an improvement on this estimate are welcomed and encouraged.

Here is the same housing data adjusted for inflation, expressed as a percentage of real prices from the most recent month:





The market is pricing in the following with respect to real housing prices through 2013 Q3:

• An additional decline from the most recent month of 12.72%.
  
• A total decline from the peak of 32.52%.
  

Note that the volume on these contracts is currently very sparse, and so using them to predict future housing prices should be viewed as unreliable. However, bear in mind that other sources of predictions are most likely even less reliable, especially organizations like The NAR which have a disincentive for accuracy. The futures markets are probably the least biased predictor available, given that those trading the contracts have a direct financial incentive to be accurate (real money rides on the accuracy).

Also note that the contract values might not necessarily reflect the expected value of the index if there are unaccounted opportunity costs involved. This was discussed in some detail in the original thread when the extended futures debuted. It is my current understanding that both the buyer and seller would have the same opportunity costs (a performance bond and transaction costs), and these costs would therefore offset each other when viewing the value as predictive. This could be wrong, though. If you would like to discuss this point, please read the original thread first since there are some references there to support the assumption of symmetry.

The settlement data for the futures contracts on the 24th was:

• Feb '09 153.05
  
• May '09 149.00
  
• Aug '09 147.80
  
• Nov '09 149.40
  
• Feb '10 149.40
  
• May '10 148.00
  
• Nov '10 147.00
  
• May '11 147.00
  
• Nov '11 150.00
  
• Nov '12 146.00
  
• Nov '13 146.00
  

Previous snapshots are available for:

• November 25, 2008
  
• August 26, 2008
  
• May 27, 2008
  
• February 26, 2008
  
• December 6, 2007
  
• November 27, 2007
  
• October 30, 2007
  
• September 17, 2007
  

Please do try this at home, in order to bring to light any errors. The data used for the above report was obtained from the following sources:

• S&P/Case-Shiller Index 1987 - present: http://www2.standardandpoors.com/ ...truncated...
  
• Futures: http://futuresource.quote.com/quotes/quotes.jsp?s=BOS&t=Future&ref=
  
• Past Inflation: http://www.bls.gov/cpi/
  
• Treasury yields: http://www.ustreas.gov/offices/domestic-finance/debt-management/interest-rate/yield.shtml
  
• Future Inflation before October 31, 2008: http://www.clevelandfed.org/research/inflation/TIPS/index.cfm
  

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The latest version of this report can be found at http://www.bostonbubble.com/latest.php?id=spcsi_bos_snapshot

- admin

[GenXer]

And now, lets see the 20-sigma bars
Futures are a can of worms. People investing in them do not necessarily understand the risk, so as far having the incentive to bet correctly doesn't translate in being correct, quite a lot of the times. But even if the bet is correct, I think they are underestimating the downside risk, thinking that it is already priced in. Most of them do not know that not all swans are white.

I'm surprised (or maybe, we shouldn't be surprised) that people are a lot more optimistic even with the looming resets of ARMs and other types of mortgages that are quite widespread in MA. Maybe we can have a thread where we can discuss some of that data. It would be very interesting to correlate the loan origination data with foreclosures. Call me a pessimist, but I see a lot more losses than the index would suggest. Somehow, with the government interfering as much as it is, if they actually get to implementing some of what they are currently planning (cramdowns and tax increases on the productive), this may last a lot longer than the last recession.

[JCK]

Curves are pretty flat. I'd say surprisingly so.

[admin]

[GenXer]

admin: Exactly my point! I will not bet on something where I have no clue as to what the risks are! I've seen analysis which shows that current models used to estimate risk underestimate risk by orders of magnitude. The best example of this is the risk associated with pricing options. Most of those who play the game don't really know all of the rules, so that's why I take the futures predictive powers with a grain of salt. Lets not forget, a lot of 'smart' institutional investors imploded because they underestimated the downside risk. Let's see what happens in the next couple of years. It should prove to be very interesting...and probably very unpredictable.

[balor123]

[samz]

It does look like the futures have been fairly consistent, and accurate. They also fit with my personal prediction (on the "Make your predictions" thread last year): slow death by inflation.

[GenXer]

samz: my prediction was that something unpredictable will happen
balor123: If this is market manipulation, it is pretty ruinous for some of the manipulators

[samz]

[balor123]

[GenXer]

samz: lets just say that people take themselves too seriously sometimes. Also, most 'analysts' tend to predict in packs, so in fact it has been shown by a study (I'll read it myself first, post the references later) that their 'predictions' tend to be closer to each other than to the real events. So...you get the point.

balor123: I think the hedge funds got what was coming to them. Now, Buffet on the other hand...with is losses from TRADING DERIVATIVES and his UNDERESTIMATION of the risk of trading options using Black-Scholes formula...does this sound familiar? By the way, his own words are that he underestimated the risk...and guess what, he is using the failed Black-Scholes formula which has been proven to underestimate risk by orders of magnitude...why do I not feel sorry for him?

[john p]

What you guys are talking about is the behavior of a frightened herd.

If an investor cuts against the grain he/she can be either ahead of the curve or dead wrong. Even if they are right by the numbers, the wave of investment money will follow the safety of the school of fish, where they choose to go. It's the same deal, people will follow where Warren Buffet puts his money (perceived smart money) and they will all stock the ponds of Newton etc.

[WSJevons]

You can't sell Boston MSA Futures because there is no market. I tried. The bid-ask - when there was a two sided quote - was wide enough to drive a double-wide through.

[admin]