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Wednesday, June 28, 2006

Housing Futures

To the left, is a chart of the local LA housing futures contract. If you look to the bottom of it, you can see the volume is very low. In general, I do not watch volume, as it is not of any value in trading. However, it is important to trade in markets that have sufficient volume, to get good executions on your orders.

The reason that this is important is as follows. When orders are placed, there has to be someone who essentially, has the opposite view of where price is going. This is necessary, because someone has to buy when you sell, and sell when you buy. Otherwise, the orders will just sit in the pits, with no executions. Most futures markets, have more than enough participation, to not worry about this.

This market at the current time, does not. Notice, the jumps from dot to dot on the initial trading days. This is the only price, that any trades were executed. In a situation like this, you can actually be correct about the direction of the market, yet not be able to get out at the right time. The success of this market is hinged upon larger participation. At some point, hopefully, the homebuilders will enter this market as a hedge, and create alot of liquidity.

We will know if this is happening, by a volume surge. Until then, stay clear of this.

6 comments:

powayseller said...

I still don't get the point of this option. Does't everyone know home prices are falling? They're falling already, builders know they are facing a recession, so why would they buy futures contracts betting on a price increase? This product came out too late - 2001 should have been a good year to start it, 2003 at the latest.

Chris Johnston said...

I agree that it is late. I believe the debut of this was delayed to prolong the housing boom. The builders if they use this, will use it on the short side to hedge against the downside. Remember, hedging their risk on the downside, is what this is intended for.

powayseller said...

The builders will go short, but who will go long? I cannot imagine anybody would do that. Isn't this meant for people who own RE to hedge their risk, so in essence, anybody who buys this would be short?

Chris Johnston said...

SB

There are still plenty of people that think RE will keep going up. Just visit, the OC Register blog. Some guy completely attacked me for my comments about declining RE prices. There are several people in there, that constantly hammer us bears and our comments. I have cut back my participation, due to it. I suspect, they are mostly young people, who have made a couple hundred K and think they know everything. I was once like that, LOL!

powayseller said...

I still don't get the purpose for the housing options. The builders know housing is very cyclical, and the bottom is near. They would hedge their housing positions by going short on the options.

So we are left with a bunch of homeowners who think housing is going up to go long? Wouldn't those people just buy real estate?

Or are the longs going to be mutual funds, pension funds, and other clueless big investors?

Chris Johnston said...

Here is the scenario. You are a builder right now that is building out a new project in the face of a declining market. You can make back some of the money you are going to lose developing your project, by being short the futures.

The short position will profit, while your hard asset value drops, hence hedging your risk. This is the main reason the commodities markets were formed in the first place.