Homes are the most local of investments, rooted to a particular place like a tree, and thus thriving or withering in response to local economic conditions. The whole world flashes by on our television screens, but the market for our homes, which is comprised almost entirely of local amateurs, remains grounded right there in our own backyard.
Soon, however, this could all change. Within a month, the Chicago Mercantile Exchange (CME), in collaboration with my company, MacroMarkets, as well as Fiserv and Standard & Poor’s, will launch futures and options contracts on home prices in ten cities in the United States. The contracts will be settled on the S&P/Case-Shiller Home Price Indices, which developed out of academic work that my colleague Karl Case and I pioneered almost twenty years ago. For many years we have been campaigning for housing futures, but no exchange wanted to use such indices to create a futures market until now.
The futures markets on home prices will allow investors around the world to invest in US homes indirectly, by buying interests in them through these markets. An investor in Paris, Rio de Janeiro, or Tokyo will be able to invest in owner-occupied homes in New York, Los Angeles, and Las Vegas.
A fundamental principle of financial theory – “diversification” or “risk spreading” – implies that interest in the new contracts will be high. People and businesses in New York, for example, are overexposed to their local real estate risks, so they should reduce this risk by selling New York home price futures. People in Tokyo will assume some of this risk by purchasing New York home price futures if the price is right. The New Yorkers still live in their own homes, but now they have spread their investment risk worldwide.