Marginal Revolution: Derivatives on housing prices
Tyler Cowen at Marginal Revolution wants to know why housing market derivatives are not met with greater enthusiasm. I have an inkling of one possible explanation. I had posted on the new derivatives at another site yesterday, thinking specifically about the possibility that the big mortgage companies might use these derivatives to hedge against losses in their “REO” portfolio. After a bit more thinking and reading some more about Fannie Mae’s problems with interest rate derivative trading, I realized there isn’t much need for this for big institutional traders. Aside from demographic changes that create a sort of inherent demand increase, housing markets track the economy generally and interest rates specifically. There is a market that already allows hedging against interest rate risk and, of course, interest rates tend to move with business cycles. If I were inclined to hedge my home value, I would most likely do that with much more liquid and widely traded interest rate futures and options rather than messing around in something with a small, and potentially much more volatile, market.
…note that economists still lack a good explanation why such markets are not more common or met with greater enthusiasm.