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One Housing Index to Rule them All
One Housing Index to Find Healthy Market Fundamentals
Various industries and disciplines find it useful to create indices to measure a group of variables in composite as a means to describe something with one simple, aggregate number. The Bureau of Labor Statistics calculates the Consumer Price Index each month, measuring the prices for a basket of goods to extrapolate and describe the movement and general level of prices in the economy. The UN created the World Happiness Report, wherein an index was built to measure the well-being of countries based on their GDP per capita and healthy life expectancy, among other things.
The housing and homebuilding industry is no different, as a handful of interested parties have created indices to assess aspects of the housing market. The National Association of Home Builders and Wells Fargo administer the Housing Market Index (HMI) survey of homebuilders each month where builders are asked to rate market conditions for new housing construction and sales in the near term. The S&P CoreLogic Case-Shiller Home Price Index (HPI) is a repeat-sales-based measure of home prices which aims to measure changes in the value of residential real estate both nationally and in 20 major metropolitan areas. Zillow Research provides the Market Health Index (MHI), which includes data on the share of housing in the foreclosure process, the share sold for a gain, the average number of days on the market, and more. Nationwide Insurance publishes the Health of Housing Markets Report, using economic indicators on things like employment, demographics, mortgage markets and house prices to score metros across the country for their Leading Index of Healthy Housing Markets (LIHHM).
Comparing Housing Index Options
If your work is intertwined with housing, you’ll find that as goes the housing market, so go your business results. As such, it’s vital for housing industry stakeholders to understand the state of the market, including the opportunities and risks at hand. The Housing Tides team recognized this need as we began our partnership with IBM Watson® – we needed context to interpret the appropriateness of the sentiment that we observed in housing industry news. However, we found that the index options available in the market ultimately did not satisfy the necessity of a comprehensive measure that considered all the parts of housing market health.
The NAHB/Wells Fargo Housing Market Index
While the Housing Market Index serves an important role in measuring the optimism or pessimism and current outlook expressed by homebuilders, we found that it is insufficient to serve our need for a holistic measure of housing markets. With its survey-based methodology, the HMI captures a slice of the whole picture, but we have to acknowledge that market participants do not always do exactly as they say, and we would be remiss to ignore analyses based on economic fundamentals. Additionally, the HMI publishes survey results on a national and regional level, preventing necessary comparisons on a market level.
The Case-Shiller HPI
Similarly, the Case-Shiller HPI capably functions to signal home price levels and trends, but we feel is incomplete as a proxy for the comprehensive health of housing markets. By just studying home prices, you miss changes in other important indicators of market health; notably, prices become disconnected from the true, underlying health of the market specifically when markets are at their least healthy. Remember the notion that house prices would continue upwards indefinitely, a sentiment that was at its apex immediately before the fall in prices. Consequently, the Case-Shiller HPI is valuable but one-dimensional as a measure of housing health and should be considered jointly with measures of affordability and housing supply, among other things.
The Zillow Market Health Index
Zillow’s Market Health Index includes more indicators than the sentiment of market participants or home prices, but the Housing Tides team found that the MHI appears to be constructed with focus on consumers, ranking markets as healthiest where there is strong price appreciation and limited supply with little consideration of affordability and the consequent sustainability of those home prices. Namely, when we restrict the Zillow MHI to the 40 largest markets, Zillow ranks the San Francisco, San Jose and New York City metropolitan statistical areas (MSA) among the top 15 healthiest despite the fact that these markets are among the least affordable in the nation. As is common in investment disclaimers, past performance is no guarantee of future results, and a record of strong home price appreciation does not necessarily cause that appreciation to continue. Measured by the Case-Shiller HPI, the five MSAs with the highest home prices at the time of the national peak in July 2006 saw home values fall by an average of 42% between then and the bottom in February 2012; the five MSAs with the lowest prices fell just 26% on average over that period. In other words, Zillow’s MHI suffers from the same problem as the Case-Shiller Index insofar as the MHI seems to rank those metros as healthy because of strong home price growth, but the metros with the strongest price growth suffered the most in the housing downturn.
The Nationwide Leading Index of Healthy Housing Markets
The Nationwide LIHHM is better yet, but still has its shortfalls. As a quarterly report, the LIHHM is not as timely as other options and as such is less actionable when having the latest data means better decision-making. Presenting the Index on a -4 to +4 scale rounded to whole numbers results in a lack of detail and makes nuanced comparisons across markets difficult. Nationwide scores Virginia Beach, Columbus and Kansas City all 1.0, but we’ve scored them 77.6, 76.7 and 76.0 respectively. We argue that there are differences between those markets that the Housing Tides Index™ (HTI) captures but the LIHHM does not. Also, the choice of scale creates an issue in interpretation – are the Nationwide researchers truly asserting that the St. Louis market (scored 2.0) is twice as healthy as San Antonio (scored 1.0)? The relatively narrow range of the HTI is a reflection of our stance that U.S. housing markets are generally healthy with only minor differences. Furthermore, the Nationwide methodology isn’t transparent, as the researchers give only broad categories of indicators but do not reveal which specific data points are used nor the details of their scoring methodology. Lastly, Nationwide’s decision to extend their analysis to cover 400 MSAs means that the LIHHM can aid assessment of more total markets, but this focus results in highlighting of smaller MSAs and obscures the performance of the nation’s largest construction markets. Notably, the top five healthiest MSAs in Nationwide’s 2017Q2 report are Lancaster PA, Scranton-Wilkes-Barre PA, Fort Smith AR-OK, Lawton OK and Durham-Chapel Hill NC, only one of which is located within a major homebuilding market.
Inconsistencies between Housing Index Perspectives
Moreover, there are considerable disagreements between the indices we’ve discussed so far. For example, Washington D.C. has one of the highest Case-Shiller Index values among the 20 metros covered, indicating strong historical home price appreciation, but the Zillow MHI gives Washington a score of just 0.9 on a 0-10 scale. Similarly, while Zillow gives the Dallas MSA a top-tier score of 9.6 in their MHI, Nationwide’s LIHHM assigned Dallas a score of -1, the lowest score among the top 40 metros they cover. The incongruities between these market indices makes meaningful comparison difficult at best.
Economist Clifford Rossi, who has held positions at the University of Maryland, Citigroup, Washington Mutual, Countrywide, Freddie Mac and Fannie Mae, argues for a holistic measure of housing market conditions in an April 2016 Housing Wire article. Rossi writes:
In any given month, updates to a dizzying array of housing statistics wind up being analyzed and dissected for any hint of what might be in store for markets… The steady release of these measures in isolation from each other, however, makes it extremely difficult to gain a comprehensive understanding of housing market performance… Armed with an overall measure of housing market performance relative to long-term trend… market participants would be in a better position to take precautionary actions to limit their exposure in highly volatile markets.Clifford Rossi
We built the Housing Tides Index with this end in mind. Other indices provide a more narrow focus centered on just a few factors (e.g. builder optimism, home prices, etc.) that inadequately represent the state of U.S. housing markets. The Housing Tides team needed an objective and sophisticated approach to quantify and compare the health of housing markets, with knowledge that an understanding of the health of a housing market and its relationship to other top markets requires an aggregated, comprehensive view of the industry. The Housing Tides Index provides a succinct monthly measure of market health across the top 41 U.S. markets. Referencing 18 market indicators ranging from unemployment rates and housing permits to rental vacancy and mortgage foreclosure rates, the Housing Tides Index helps users understand the nuances of local housing markets at a deeper level than is possible with other tools available in the marketplace.