Real Estate Derivatives - NYUw4.stern.nyu.edu/salomon/docs/Shiller_NYU2007.pdf · San Diego 237.16 -0.74% -2.10% -3.88% -5.32% ... Mortgage Insurance Companies Mortgage Lenders

14 Main Street ● Madison ● NJ 07940 ● 973.889.1973 ● www.MacroMarkets.com

Robert J. ShillerChief Economist, MacroMarkets LLC

Professor of Economics, Cowles Foundation Yale UniversityProfessor of Finance, School of Management, Yale University

Real Estate DerivativesReal Estate Derivatives

May 18, 2007

“Derivatives 2007” NYU Stern School

Until very recently…

Direct investment/hedging limited to buying/selling houses

• Transaction friction & constraints• Limited Liquidity• Costly and Slow• Impossible to short• Difficult to diversify

U.S. Housing:U.S. Housing:An Incomplete MarketAn Incomplete Market

SizingSizing--Up Housing as a Financial MarketUp Housing as a Financial Market

ScaleScale

ConditionsConditions

Reliable Price MeasurementReliable Price Measurement

Emerging ProductsEmerging Products

StakeholdersStakeholders

$22.8 Trillion$22.8 Trillion

Market ScaleMarket ScaleThe United States at nightThe United States at night

Unique Performance:Unique Performance:US Housing vs. Other AssetsUS Housing vs. Other Assets (Quarterly, 2006)

0.585.57%410.30%-0.21S&P 500

0.216.48%75.75%0.14NARIET Price Index

0.517.65%514.16%0.24GSCI Total Return Index

1.282.55%289.75%-0.30JP Morgan Gov’t Bond Index

1.051.45%202.60%1.00S&P/CSI

SharpeVolatilityReturnCorrelation20 YEAR

0.325.69%81.43%-0.11S&P 500

0.396.52%94.42%0.17NARIET Price Index

0.358.69%59.86%0.55GSCI Total Return Index

1.032.48%84.94%-0.18JP Morgan Gov’t Bond Index

2.201.29%129.42%1.00S&P/CSI


2.473.61%11.09%N/AS&P 500

2.294.80%22.73%N/ANARIET Price Index

-0.447.79%-15.10%N/AGSCI Total Return Index

0.431.69%6.01%N/AJP Morgan Gov’t Bond Index

0.410.59%-0.54%N/AS&P/CSI


0

20

40

60

80

100

120

140

160

180

200

1880 1900 1920 1940 1960 1980 2000 2020

Ind

ex o

r In

tere

st R

ate

0

100

200

300

400

500

600

700

800

900

1000

Po

pul

atio

n in

Millio

ns

H om e Pr ic es

B u ild ing Costs

Popu la t ion

In te rest Ra tes

U.S. Housing:U.S. Housing:Historical Perspective Historical Perspective (1890 (1890 -- 2005)2005)

STRICTLY CONFIDENTIAL Copyright 2007 MacroMarkets LLC All Rights Reserved7

S&P/Case-Shiller Composite (10-City) Home Price Index Jan 1987-Feb 2007

0

50

100

150

200

250

February1982

November1984

August1987

May 1990 January1993

October1995

July 1998 April 2001 January2004

October2006

July 2009


S&P/Case-Shiller 12-Mo. Growth Rate of Home Prices Jan 1988 to Feb 2007

-10.00%

-5.00%

0.00%

5.00%

10.00%

15.00%

20.00%

25.00%

November 1984 August 1987 May 1990 January 1993 October 1995 July 1998 April 2001 January 2004 October 2006 July 2009

Peak July 2004: 20.5%


NAHB Traffic of Prospective Buyers and S&P CSI Composite Home Price Increase

0

10

20

30

40

50

60

70

1980 1985 1990 1995 2000 2005 2010

NA

HB

Tra

ffic

Inde

x

-15%

-10%

-5%

0%

5%

10%

15%

20%

25%

30%

Ann

ualiz

ed M

onth

ly In

crea

se o

f Hom

e Pr

ices

(%)

Home Price Increase

Traffic of Prospective Home Buyers


Boston: S&P/Case-Shiller Home Price Index And BLS Rent of Primary Residence Index

0

20

40

60

80

100

120

140

160

180

200

1980 1985 1990 1995 2000 2005 2010

Date

Rea

l Ind

ex

Price

Rent


Chicago: S&P/Case-Shiller Home Price Index And BLS Rent of Primary Residence

Chicago Homes

0

20

40

60

80

100

120

140

160

180

1975 1980 1985 1990 1995 2000 2005 2010

Date

Rea

l Ind

ex

PriceRent


Denver: S&P/Case-Shiller Home Price Index And BLS Rent of Primary Residence Index

Denver Homes

0

20

40

60

80

100

120

140

160

1975 1980 1985 1990 1995 2000 2005 2010

Date

Rea

l Ind

ex

PriceRent


Las Vegas: S&P/Case-Shiller Home Price Index And BLS Rent of Primary Residence

Las Vegas Homes

0

50

100

150

200

250

1980 1985 1990 1995 2000 2005 2010

Date

Rea

l Ind

ex

PriceRent


Los Angeles: S&P/Case-Shiller Home Price Index And BLS Rent of Primary Residence

Los Angeles Homes

0

50

100

150

200

250

300

1975 1980 1985 1990 1995 2000 2005 2010

Date

Rea

l Ind

ex

PriceRent


Miami: S&P/Case-Shiller Home Price Index And BLS Rent of Primary Residence Index

Miami Homes

0

50

100

150

200

250

300

1965 1970 1975 1980 1985 1990 1995 2000 2005 2010

Date

Rea

l Ind

ex

PriceRent


New York: S&P/Case-Shiller Home Price Index And BLS Rent of Primary Residence Index

New York Homes

0

50

100

150

200

250

1975 1980 1985 1990 1995 2000 2005 2010

Date

Rea

l Ind

ex

PriceRent


San Diego: S&P/Case-Shiller Home Price Index And BLS Rent of Primary Residence Index

San Diego Homes

0

50

100

150

200

250

300

1975 1980 1985 1990 1995 2000 2005 2010

Date

Rea

l Ind

ex

PriceRent


San Francisco: S&P/Case-Shiller Home Price Index And BLS Rent of Primary Residence Index

San Francisco Homes

0

50

100

150

200

250

1975 1980 1985 1990 1995 2000 2005 2010Date

Rea

l Ind

ex PriceRent


Washington DC: S&P/Case-Shiller Home Price Index And BLS Rent of Primary Residence Index

Washington DC Homes

0

50

100

150

200

250

300

1985 1990 1995 2000 2005 2010

Date

Rea

l Ind

ex

PriceRent


Residential Investment/GDP (%)1929-2006Real Home Price Index 1929-2006

0

1

2

3

4

5

6

7

8

1920 1930 1940 1950 1960 1970 1980 1990 2000 20100

50

100

150

200

250

Real Home Price Index

Res. Invest. As Share of GDP


Compare OFHEO Indices – Short Sample Ending 2006-IV

200

205

210

215

220

225

230

235

240

245

250

2005 2006 2006 2007 2007

OFHEO USA

OFHEO Purchase Only SA

OFHEO Purchase Only NSA


Recent NAR Median Home Price (Ending Feb 2007)

$190,000

$195,000

$200,000

$205,000

$210,000

$215,000

$220,000

$225,000

$230,000

$235,000

2003.5 2004 2004.5 2005 2005.5 2006 2006.5 2007 2007.5

• Mounting Supply, Cancellation Rates• Diminishing Sales• Tightening Loan Underwriting• Subsiding Speculation• Uncertain Price Appreciation•Changing Psychology

"The adverse publicity surrounding the sub-prime market has further damaged home buyers' psychology"

- Hovnanian Enterprises, May 4, 2007

Market ConditionsMarket Conditions

S&P / Case-Shiller® Home Price Indices

Reliable Price MeasurementReliable Price Measurement

Emerging Products:Emerging Products:CME Housing Futures & OptionsCME Housing Futures & Options

“Financial Engineering comes to real estate at last, and the housing market will never be the same.” -Barron’s 5.15.06

** Futures Prices as of May 4, 2007* Released April 24, 2007

-4.79%-3.61%-2.06%-0.70%220.90Composite-10

-5.15%-3.97%-1.95%-0.61%238.05Washington, DC

-4.17%-3.12%-1.32%-0.46%211.77San Francisco

-5.32%-3.88%-2.10%-0.74%237.16San Diego

-4.12%-3.27%-1.08%-0.04%211.50New York

-4.66%-3.73%-1.59%-0.51%279.42Miami

-4.29%-3.09%-2.11%-0.54%268.67Los Angeles

-5.50%-3.85%-2.28%-0.63%230.52Las Vegas

-4.64%-3.60%-2.71%-1.08%135.86Denver

-3.16%-2.09%-1.25%-0.54%167.54Chicago

-4.90%-3.83%-1.81%-0.62%168.28Boston

Feb 2008Nov 2007Aug 2007May 2007February 2007*

Implied Premium/Discount in Futures Market



CME Futures Discounts July 2006-Feb 2007

S&P/Case-Shiller Indexes - February 2007 Futures Prices v. Index Levels

-6%

-5%

-4%

-3%

-2%

-1%

0%

1%

2%

3%7/3/2006 8/3/2006 9/3/2006 10/3/2006 11/3/2006 12/3/2006 1/3/2007 2/3/2007

Boston Chicago Denver Las Vegas Los Angeles Miami New York San Diego San Fran Wash DC Comp-10

S&P/ C ase - Shille r C om posite - 10 : Expected C hange W ithin O ne Year, by Trad ing Day:

Throug h M ay 4 , 2 0 0 7

200

210

220

230

240

250

260

M ay2 0 0 6

Jun2 0 0 6

Jul2 0 0 6

Aug2 0 0 6

Sep2 0 0 6

Oct2 0 0 6

Oct2 0 0 6

Nov2 0 0 6

Dec2 0 0 6

Jan2 0 0 7

Feb2 0 0 7

M ar2 0 0 7

Apr2 0 0 7

*Data derived from the asking price o f the long-dated CM E futures contract and prevailing S&P/Case-Shiller Home Price Incex level on each trading day.

CM E Com posite-10 FuturesS&P/ CSI Com posite-10 Index


Pay:S&P/CSI Return

Receive:Negotiated Interest Rate x % Pay:

Negotiated Interest Rate

Receive:S&P/CSI Return

Party CounterpartyOTC Swaps


- Hedge Housing Exposure / Bearish Housing View - Gain Housing Exposure / Bullish Housing View

• Futures & Options

• Forwards

• Swaps

• Index-Linked Notes

• Exchange-Traded Securities

• New Mortgage Contracts

• New Insurance Contracts


Banks LongsLongs ShortsShorts

Dealers


Developers and Home Builders

Hedge Funds

Individual Investors

Pension Funds

Mutual Funds

Insurance Companies

REITs

Banks

Dealers

Developers and Home Builders

GSFs

Hedge Funds

Individual Investors

Mortgage Insurance Companies

Mortgage Lenders / Originators

REITs

Stakeholders will more closely monitor, reStakeholders will more closely monitor, re--evaluate housing evaluate housing stakes based upon the “news of the day”stakes based upon the “news of the day”

• Building permits• Consumer confidence• Federal Reserve Board policy• Home Sales - new and existing• Housing starts• Inflation• Interest rates• Job creation/unemployment

• Mortgage applications• NAHB Housing Market Index• NAR Pending Sales• Housing-related company news

(home builders, raw materials, construction equipment, etc.)

• Regional economic differences• Sales/inventory ratios• Tax laws


March 27 (Bloomberg) -- The U.S. currency weakened as a private survey showed the price of homes in 20 U.S. metropolitan areas fell in January for the first time in at least six years and a Federal Reserve report showed a regional decline in manufacturing this month.

March 28 (Bloomberg) -- Asian stocks dropped for a second day, led by companies that sell to the U.S. after consumer confidence and home prices declined in the region's largest export market.

“Automakers and technology companies rely on sales in North America so the current uncertainty over the U.S. economy is pushing the shares lower,” said Junichi Misawa, who oversees $655 million at STB Asset Management Co. in Tokyo. In Japan, the Nikkei 225 Stock Average fell 0.6 percent, erasing gains of as much as 0.5 percent, while the broader Topix index slid 0.7 percent. All other markets fell, apart from in China. India's Sensitive Index slid 1.8 percent, the most in the region.

U.S. stocks posted their steepest losses in two weeks as economic reports added to concern a housing crisis will dent growth.


U.S. Housing

Creating Efficiency

• Price discovery in derivatives markets will have a positive effect on the cash market

• Greater efficiency in the cash market will reduce the impact of the real estate cycle on the overall business cycle

• Property derivatives will broaden investor base and add significant liquidity to the asset class

Concluding ThoughtsConcluding Thoughts

Real Estate Derivatives - NYUw4.stern.nyu.edu/salomon/docs/Shiller_NYU2007.pdf · San Diego 237.16 -0.74% -2.10% -3.88% -5.32% ... Mortgage Insurance Companies Mortgage Lenders

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