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CME market maker fields questions on Boston housing futures

 
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Location: Greater Boston

PostPosted: Wed Aug 18, 2010 2:29 pm GMT    Post subject: CME market maker fields questions on Boston housing futures Reply with quote

I am very pleased to welcome the official market maker for the CME Home Price futures contracts to the Boston Bubble forums (homepricefuturesguy). He has graciously offered to field questions related to the housing price futures contracts. He maintains a website/blog dedicated to the subject at http://www.homepricefutures.com/ , including a section on basics which may preemptively answer some questions. Please post additional questions for him here, in this thread.

He has been actively working over the last few months to drum up interest in the futures contracts in order to narrow the bid/ask spreads and bring more liquidity to the contracts. This is a worthwhile goal as the futures have great potential as a tool for hedging, prediction, policy making, etc. Before speaking with him, I had actually already noticed what I anecdotally thought was much larger price movement than what had been observed in the past for the S&P/Case-Shiller futures for Boston. I am very eager to post updated graphs when the August contracts are settled because of the increased movement. He has already provided a blog post discussing the recent price movement in Boston contracts.

Please post questions.

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PostPosted: Fri Aug 20, 2010 6:12 pm GMT    Post subject: Reply with quote

I'll start the questions off with a few of my own:

  • What is your strategy for narrowing the bid/ask spreads on the contracts? Are you focusing only on some MSAs and/or settlement dates with the intent of broadening your efforts once those become more efficient or are you targeting all markets at once?
  • Do you arbitrage differences between individual MSAs and the composite? I know you've described the possibility before and was wondering if you have done this personally.
  • How often do you speak with prospective buyers/sellers and what feedback have you heard from them?
  • This may be a dumb question, but I have been curious about this for awhile - when entering into one of these contracts, what happens to the money put into the performance bond in the time before settlement? Does it earn interest? This is mainly of academic interest at the moment given that interest rates are anemic, but I'm still curious.


Thanks,
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homepricefuturesguy



Joined: 15 Aug 2010
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PostPosted: Mon Aug 23, 2010 1:07 am GMT    Post subject: CME Home Price futures -Question 1 -Building liquidity Reply with quote

This is John aka homepricefuturesguy. Just back from a long weekend in the heart of RSN on the Cape.

I appreciate the opportunity to answer any questions as (related to the first question) the more comfortable the potential audience is with respect to their knowledge of trading in this product, the more comfortable they might be to quote what the contracts are saying at work, or better still, stick their toe in the water and bid, offer or trade a contract to express their views.

In that context, I'm looking for any soapbox (blog, conference, write-up of magazine articles, lecture at colleges) to get the word out.

I think that there are two target audiences at the moment (the financial advisor world, and Wall Street research).

1) The FA world (or those that act as their own) is important because the case for using the contracts to "insure" against home price losses is fresh in everyone's mind and a trade that many wish they had done. Since homes tend to be the largest asset on many people's balance sheet -and since you can't sell/hedge half your house - the contracts represent a potential pure play to hedge a portion of a house's exposure to regional price moves. While location is important, regional themes have been a big contributor to home prices. As trading has been limited, the volume from hedging by individuals (or their FAs) should be manageable. FAs understand insurance and there are elements of insurance to home price futures (including possibly a limit on trading). There have been interesting discussions about imbedding home price protection in other products -all of which will depend on the success of markets like this one.

2) The Wall Street reserach crowd is the second target because their views are so widespread. They've also reached the point that all of their sub-prime models require an assumption on forward home prices. While they all have their own "black boxes" a set of market-derived assumptions (from the CME futures) might be a neutral starting point. Wall Street will still be the home for many OTC products related to home prices, but as derivatives get cleared on exchanges, it will be hard for prices between the CME and Wall Street to differ dramatically.

As far as tightening liquidity, it's been a series of steps. I first worked with the front contracts to make sure that there are tight spreads across the board. While the front contracts don't offer long-term hedging, it's a good place to start as one can mature/cash-settle/ positions.

From there I focused on the Nov cycle (where 85+% of the open interest is) and made sure that "some" markets exist for all 11 regions (the 10 regions + the 10-city CUS contract) for the Nov '11 and '12 contracts. I've been able to bring several contracts within 10% bid/asked and three 2012 contracts witin 6%. My sense is that anything inside 4-5% for 2+year forwards should work. (The difference in implied HPAs out 2 years is small.) Getting prices in all Nov'13 contracts and tightening up the '11 and '12's is next.

Nothing prompts tigher markets than trades. BOS, DEN and NYM are the tightest three markets in Nov. '12 at the moment because they've had the most recent trades.

I tend to focus on the Northeast contracts (NYM, BOS and WDC) as I know the areas, but have quotes in all markets. The West Coast contracts tend to be more volatile, and therefore have wider spreads.

As to the purely practical side of how to bring spreads in - I keep lowering offerings or raising bids until there's a trade. My sense is that there may be more hedgers (and fears of double-dips) so that offers will have to come down further.

On the arbitrage question (the value of the 10-city contract versus the individual 10 cities) I watch it, but the bid-asked spreads don't allow pure arbitrage at this point.

I get calls from potential users of the contracts about 3-4 times/week. Most want something to work, but lament the chicken-and-egg syndrome of low liquidity. (I tell them I'm happy to start something on the other side). There has been a lot of inquiry on options (mostly from potential put buyers), which aren't quoted electronically, and have not traded in a while, and I am organizing a blog response on that.

Finally, I don't have a direct answer to your question on performance bonds. I would imagine that most individuals will post margin and will need to respond to margin calls -much like other CME contracts.

Again, I'm happy to hear about your efforts related to discussions of home prices. I'll answer any questions here and may use some of the themes on my own blog.

hpf guy
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PostPosted: Tue Aug 24, 2010 5:13 am GMT    Post subject: Reply with quote

nice writeup
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