The Hindu Business Line : Housing futures

This was apparent last week when the government finally approved the amendment of a regulation that would enable trading in mortgage-backed securities. Such securities have been trading in the US for a long time now. And from 2006, the Chicago Mercantile Exchange will start trading in housing futures! What is this contract?

Suppose you want to buy a house next year. You expect real estate prices to move up 10 per cent during this period. How do you hedge against the likely price increase?

You just have to buy a housing futures contract. If real estate price moves up 10 per cent, the futures price may move 7-10 per cent depending on other factors. The profit from the futures contract can help you pay the increase in real estate price.

But what if you bought a property at the peak of the housing boom and want to sell it two years later? You realise that your property could lose value by that time.

So, you sell a housing futures contract. If real estate prices decline as you expect, so will the futures price. You can buy back the futures contract at a lower price. The profit on the futures contract will help lower the losses incurred on your property sale. The housing futures contract also helps real estate companies hedge against fall in prices.

So, housing futures contract essentially helps you hedge your real estate risk. This is important because real estate is perhaps the single largest exposure in your portfolio that includes stocks and bonds.

Should not our markets also offer such a product?

(The author is Head, Research, Navia Markets)

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